Investor considerations
For investors, compounding the challenges of a deteriorating economic outlook is the backdrop of elevated market vulnerabilities, with stretched valuations in both equity and credit markets. U.S. markets have responded negatively to recent events, with the S&P 500 down almost 10% from its January record high and credit spreads widening recently. Yet, there are a few key considerations for investors:
- Historically, investors experience several large pullbacks each year, with very few exceptions. The average year sees a U.S. stock market drop of -13.5%, yet most years still end in positive territory, averaging 9% gains. Indeed, volatility is a normal part of investing, and investors are often rewarded for staying disciplined through short-term volatility.
- Beyond the volatility, U.S. markets can still deliver decent equity returns in a modest growth year because different types of companies perform well in differing economic environments. Companies with balance sheet strength, impressive margins, and strong cash flow can likely continue to prosper. Active management is essential for investors trying to identify potential outperformers in a weaker economic environment.
- As the global economy adjusts to swift changes in U.S. policies, global diversification remains crucial for managing portfolio risk and capturing opportunities. Indeed, global economies, which are more cheaply valued than the U.S., have been looking to shore up their economic resilience to U.S. policies. Their improved fundamental outlooks, coupled with the more attractive valuations, have been driving an impressive outperformance against the U.S. that is likely to continue.
- The benefits of cross-asset class diversification have been on full display in recent weeks as bonds have rallied and equity markets have struggled. With this negative correlation, fixed income is once again performing its ballast role, helping portfolios weather the economic slowdown and market pullback. Moreover, the higher rate environment means investors can now lock in attractive yields without taking excessive credit risk. Credit quality, duration exposure, and liquidity should remain top of mind as well. In addition, with inflation threatening signs of persistence amidst the tariff threats, investors should also prioritize real assets that can provide inflation mitigation in this environment of geo-economic and political uncertainty.