As US Independence Day on the Fourth of July approaches, Jason Hollands, Managing Director of Bestinvest, takes a closer look at the US and highlights funds choices for those wishing to access the world’s leading equity market.
There is an old saying that “when the US sneezes, the world catches a cold”, so the health of the US should be high on the radar of all investors. That’s because the US remains the world’s biggest economy and accounts for around half of global stock markets by market capitalisation. The dilemma for investors however, is that the US economy has been sending conflicting signals for some time.
Encouragingly, cyclical indicators such as home sales and vehicle sales have improved, while inflation has been modest. Of particular note, household net worth has not only returned to pre-crisis levels, it is now at an all-time high. While this won’t be spread equally, because a large part of this is down to rising stock prices benefitting wealthier Americans, it should nevertheless translate into improved consumer confidence and support the domestic economy. Additionally, US household debt servicing costs have dropped dramatically as rates are low, which means more disposable income to spend or invest.
On the other hand, employment growth has disappointed and manufacturing data has been patchy. US annualised GDP growth of 2.5% in the first quarter of the year also came in under forecasts of 3%, indicating that government spending cuts are nullifying the positive performance of the housing markets.
This mixed picture provides the backdrop to recent comments made by Ben Bernanke around the potential tapering down of Quantitative Easing by the US Federal Reserve, which has rattled both bond and equity markets in recent weeks. This was not a firm commitment to end QE but guidance that the current rate of bond purchases would ease should US economic data improve as the Fed anticipates. The door however is left ajar for accelerating purchases if the data disappoints. In effect this was a warning shot to investors not to become complacent about future Fed policy to prevent bubbles developing in certain asset classes.
Low energy costs could fuel a manufacturing renaissance
Further afield, there are some other positive multi-year trends supporting the US economy, notably cheaper natural gas prices as a result of the booming shale gas industry. This is important because natural gas is a key cost input to many energy based industries such as petrochemicals, steel and fertilizers, but it is also used to generate electricity and is developing into an important transport fuel for trucks.
Lower energy costs are therefore helping to make the US progressively less reliant on energy imports and helping reduce the costs of US manufacturing at the very time wage inflation is rising in China. This closing of the manufacturing cost gap is one of a number of factors underpinning the emerging trend of manufacturing jobs being repatriated to the US, reversing the pattern of the last decade which has cost large numbers of US jobs. In the auto industry alone, firms such as BMW, Nissan, Maserati, Kia Motors, Caterpillar and Michelin have all announced plant investments in the US, while plant expansions have been announced by chemical firms such as Dow, Chevron Phillips and Shell.
Income an emerging theme
Over the last two decades, the US has been a market where dividend yields have been relatively low (1.8% on average between 2000 and 2010 and 2.5% in the 1990s). This compares to a long run average of 4.1% between 1926 and 2012.
Yet many US companies are now carrying large amounts of cash on their balance sheets at a time when they are earning little interest thanks to ultra-low rates. This partially underpins the increased propensity to pay dividends to shares again, with the likes of Apple announcing last year that it would start paying a dividend.
Focus on value
US equities have performed well over the last 12-months, with the S&P 500 total return index increasing by almost 25% over the last year. However, with a forward P/E ratio of 13.8 times earnings, US shares are not especially cheap compared to where they have traded over their own history.
A recovering US domestic economy combined with a strengthening US dollar could nevertheless provide attractive investment opportunities for sterling based investors. Balancing this up with the importance of not overpaying, we therefore think there is a case for focusing on US funds with an emphasis on identifying stocks that are undervalued and given the strong cash position of many US businesses we also think income is starting to become an interest theme in the US market.
The GAM Star GAMCO US Equity which we have recently given a new five-star rating and added to Bestinvest’s Select platform is new to the UK. The fund is managed by Mario Gabelli, who has a 20 year track record of managing a US mutual fund. This is a value fund which will target companies where there is a catalyst to unlock value, such as a corporate restructuring. Gabelli and his team of more than 30 analysts at GAMCO are particularly successful at encouraging company to company M&A deals between global industry leaders, especially in the food, drinks and consumer sectors. Some transactions can take a long time to work through so this fund is considered more viable for long term investors.