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The final quarter of 2013 was a boon for global equities, helping them finish off a year of solid gains on a strong note. The MSCI World Index gained 8.00% during the quarter, led by U.S. stocks, which continued to outperform those in non-U.S. markets. Developed markets continued their dominance over emerging markets.
Results were generally positive across the regions. Slightly accelerating economic growth rates in Europe supported solid returns from stocks on the Continent. A modestly slower growth rate dampened enthusiasm for Japanese stocks, although encouraging inflation developments sparked some optimism there. Despite modest gains, emerging markets generally underperformed as uncertainty regarding the U.S. Federal Reserve's (Fed's) quantitative easing program led to excess volatility. A focus on the deflationary price momentum in graying economies should continue to keep central bankers interested in inflation. Despite this set of complex, region-by-region circumstances, we are finding many instances of sustainable earnings acceleration at the company-specific level, an environment that favors American Century Investments' investment approach.
After months of speculation that kept global markets on edge for most of the year, the Fed announced in December that it would indeed begin tapering (reducing its bond-buying program) in early 2014. The markets sighed and rallied, seeming to have digested this eventuality.
Evidence of economic stabilization and corporate earnings growth in the U.S., U.K., the eurozone, Japan, China, and even in the long-lagging emerging markets provided global investors with reasons to believe the global economic recovery was solidly on track, and the confidence to drive equity prices higher in many markets.
Looking ahead to 2014, we are encouraged about the U.S., Japan, and Europe. While we expect emerging markets in general to continue to moderate, we are finding some attractive opportunities in select companies there we believe are positioned to benefit from global growth. China appears to be stabilizing and continues to offer up specific opportunities in the form of companies benefitting from the growing internal markets for Internet and social media usage and a stronger appetite for consumer goods. We expect central banks to remain focused on quantitative easing as they continue to monitor the deflationary price momentum in graying economies.
European markets rallied for the second consecutive quarter as economic activity slightly accelerated, effectively putting one of their longest-tenured recessions behind them. The region saw increased earnings stabilization, with consumer-driven companies, especially those with exposure to the U.S. housing and consumer recoveries, leading the way. Furthermore, the European Central Bank responded to concerns over falling inflation by cutting its key lending rate and declaring that it is "ready and able to act" if inflation lingers at low levels for an extended period. The combination of lower rates, improving economic growth, and favorable corporate earnings results, helped make the region one of the world's strongest performers for the period.
Going forward, Europe should continue to improve, as governments, companies, and the central bank appear to be doing what they need to do to keep the rebound on track. Labor flexibility and stimulative fiscal policies remain important components of that turnaround. Earnings are improving, and stock prices still appear to be reasonable in the major markets. Industrials in the larger economies such as France and Germany and consumer-based names across the region should continue to benefit from increased economic activity. Financials, especially in peripheral markets such as Ireland and Spain appear ready to join the party as they get their balance sheets in order. Peripheral markets have responded somewhat; now earnings must catch up.
The fact that U.S. stocks hit multiple new highs, despite legislative gridlock, a healthcare.gov meltdown, and ongoing uncertainty about Fed policy as a new Chairperson readied to take over the reins, tells us that the U.S. recovery is for real. The housing recovery continues. Corporate earnings remain strong, and companies have been able to grow without large increases in payroll costs. Consumers should benefit from lower oil prices and competitive pricing within the brick-and-mortar and online retail spaces.
The employment picture is brighter, with jobless numbers decreasing due to new job growth rather than the long-term unemployed giving up and leaving the ranks of job seekers. Throughout the fourth quarter, reported initial unemployment claims were around or below the levels seen since before the financial downturn.
While good news on the employment and housing fronts has helped consumer confidence, Americans are not rushing back to the malls. The holiday shopping season was only a modest success for many retailers. Because consumers remain cautious about the sustainability of the recovery, spending is value-conscious, and saving is up. Economists look at those facts and posit that better economic data will lead to increasing consumer confidence, which, when combined with higher savings and real wage growth, should lead to greater consumer spending later in the year. This is good news for companies in the industrials, consumer discretionary, consumer staples, financials and other sectors.
Amid these conditions, U.S. stocks still appear attractively priced, with earnings multiples still significantly below levels seen during previous bull market runs
Japanese equities continued to benefit from stimulative fiscal and monetary policies. Corporate earnings in Japan continue to grow, albeit more modestly than in previous quarters, with many export- and industrial-based companies continuing to benefit from a weaker yen and the government's program to buy back bonds and stimulate inflation. The nation's economic growth rate slowed slightly in the fourth quarter, but remained positive.
So, the experiment continues. "Abenomics" (Prime Minister Shinzo Abe's efforts to jumpstart the economy) appears to be keeping the economic rebound afloat. We remain cautiously optimistic. There are several questions investors must consider in 2014 regarding Japan: How much of an effect will the new consumption tax in April have on economic activity? Will Japan need to institute another supplementary budget to offset the effects of that tax? And will earnings growth at the company level continue to rebound? We will continue to monitor these questions closely. While some investors remain cautious about whether Abenomics is sustainable given Japan's level of debt financing, any signs of economic acceleration are reasons for optimism, in our view.
Despite posting positive performance for the second consecutive quarter, emerging markets continued to lag developed markets due to fears surrounding U.S. Fed tapering and the reverse of credit flows. China appeared to be the bright spot among emerging markets, where stabilizing growth favored China-focused Internet, broadband, online, and social media companies. Companies tied to low-income housing and lower fuel costs--two government priorities--also benefitted.
We expect emerging markets to continue treading water into 2014. While there are some bright spots--and we continue to find opportunities through our bottom-up fundamental research process--we remain aware that rising inflation and currency weakness will continue to challenge many emerging market economies, especially those carrying current account deficits versus the U.S. in a stronger-dollar environment.
After some unsettling ups and downs, the Chinese economy seems to be stabilizing at a 7.0-7.5% level of growth. This is good news for many of the world's markets. The big question in the world's second-largest economy is how the central committee's new plenary directives will affect growth as China continues to transform itself from an investment- and industrial-based to a service-based economy.
Longer-term, developing economies, especially in Asia, should exhibit strong growth relative to developed markets, despite recent performance headwinds, which, in our view, are the result of several short-term factors. We believe commodity- and materials-based names, weakened by China's slower infrastructure spending, should rebound along with greater economic activity in China, Europe and the U.S. Manufacturers and exporters, especially those tied to global growth, should benefit as economic conditions strengthen in China and the developed markets.
As dedicated bottom-up stock pickers, we are committed to keeping short-term market trends in perspective as we maintain our disciplined investment approach. Though optimistic after several consecutive quarters of growth, many investors remain cautious about fixed income, U.S., Europe, Japan, and emerging markets investments alike. We believe that by analyzing opportunities on a company-by-company basis, regardless of short-term market conditions, we will be able to uncover attractive stocks that can offer the earnings acceleration potential that is the cornerstone of our investment process.
International investing involves special risks, such as political instability and currency fluctuations. Investing in emerging markets may accentuate these risks.
The opinions expressed are those of Mark Kopinski and are no guarantee of the future performance of any American Century Investments fund. This information is for educational purposes only and is not intended as investment advice.
For a detailed description terms referenced above, refer to our Glossary.
MSCI World Index: A free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of developed markets.
Source: MSCI. Morgan Stanley Capital International (MSCI) makes no express or implied warranties or representations and shall have no liability whatsoever with respect to any MSCI data contained herein. The MSCI data may not be further redistributed or used to create indices or financial products. This report is not approved or produced by MSCI.