Page 16 - Taking Stock 22 Summer 2019

Summer 2019 Taking Stock Themes and strategies for 2019 Investment strategy VALUE CAN SET TRAPS There are many metrics for assessing whether there is any ‘value’ available in a given asset market – whether it be shares, bonds, or real estate. For equities, a simple proxy for whether a market is cheap or expensive is the Price/Earnings (P/E) ratio. While this ratio can be distorted at times and needs to be used advisedly as an indicator, there is little doubt that international equities overall have become ‘cheaper’ on a P/E basis as a result of the 2018 market losses. Take the main US market index – the S&P 500 – as an example. One year ago the P/E ratio was quite high (or expensive) by historical standards at 22.4, with strong 2018 earnings results justifying its optimistic valuation. But with the sell-off in the fourth quarter, the P/E ratio has come down to 20.5 as at 16 January. This may not seem much of a fall, but if we look at analysts’ forecast US company earnings for 2019 the ratio has come down further – to only 15, which is below the long-term average level. Beyond the US, many global equity markets’ P/E ratios are at even more historically-soft levels, due to the fact that their share market performance has generally been weaker than that seen in the United States. The dividend yield on these markets has risen noticeably, for instance reaching 4% in Europe and almost 3% in emerging markets. The longer-term earnings outlook, however, cautions us not to become too enthusiastic on the growth prospects for international equities. Valuation metrics are not as compelling, though they have improved. Given that the global economic expansion is now in its tenth year, the risk of a major bullish revival is low, but markets have swung from excessive optimism one year ago to excessive pessimism today. Given indications that interest rates will not rise as quickly as previously feared, we anticipate a recovery period for world share markets. In this we also include listed property and infrastructure assets, though their prices have been more resilient than equities to date. 16