Every January I promise myself I will resist forecasting. It’s the smart people who know how little they know about the future, so I will try to be a smart person. I was in Taiwan on a business trip in the 1990s and saw a government report which projected the next five-year growth rate out to two decimal places. I passed this to a friend, who said maybe it shows that Taiwanese economists have a sense of humor! Lets hope.
Alas, since we are not only entering a New Year but also a new decade, I guess I do have to say something about the future. The first rule (or should I say mistake) of forecasting is to see the future as a continuation of the most recent past. We are familiar with what has just happened and we ‘anchor’ our estimates to these numbers.
The U.S. has been the hottest global stock market the past 10 years (see chart below) so it’s natural to see this continuing. At the turn of the century in 2000, Emerging Markets had just had a major run, and everyone was talking about the BRICs (Brazil, Russia, India, China and South Africa). Well, Emerging Markets had a complete comeuppance the next 10 years and many don’t even remember what BRICs stands for.
The point is that markets and economies that lead in one decade don’t often lead in the next. The U.S. market today is more expensive than the rest of the world and strong markets don’t usually start at high P/Es, they start at low valuations. In addition, the U.S. might be getting stretched financially. Debt levels have increased at both the Federal and corporate levels and the consumer may start to run out of gas if inflation or interest rates rise.
This does not mean that the U.S. is in for a horrible decade, but it does mean that other markets, specifically International and Emerging Markets which trade at lower valuations, may do better. Ruchir Sharma pointed this out in a New York Times piece on December 27. U.S. large caps, especially tech stocks have outperformed smaller companies and Growth has outperformed Value. Life is not exactly a metronome, but as they say, history may not repeat itself, but it does rhyme.
We are keeping a strong U.S. exposure in our portfolios. America still accounts for one quarter of the world’s output and one half of the world’s stock market. But we will make sure we are fully diversified across International, Emerging Markets, Small Cap and Value. The trend the past decade has been the U.S. market but as Wall Street pundits say, the trend is your friend…..except at both ends.