Three Key Economic Themes for 2015

Now that we are three months into the new year, we can talk about some of the economics happening around the world—and some ways we’re positioning client portfolios to make the best of the situations. There are currently three key economic themes that I am keeping in mind:

1. Rising interest rates in the United States 
2. Quantitative easing and currency devaluation (currency wars) in both Asia and Europe
3. U.S. stocks are richly valued due to relatively strong economic growth and quantitative easing over the past six years

Let’s tackle them one at a time—and how I see each theme affecting our three investment buckets: Stocks, Bonds, and Alternative Investments.

The Federal Reserve Board has hinted at finally raising overnight lending rates above zero - which they have offered to member banks since late 2008. The key drivers they hoped to see before inching rates up are low unemployment, decent GDP growth, and inflation above 2%. It appears we’ve accomplished the first two, but there is still no evidence of inflation—as they calculate it. No doubt the price of oil falling 50% has helped keep inflation at bay. The Fed may raise rates this summer, this fall, or even wait until 2016. 

The European Central Bank (ECB) and the Bank of Japan (BOJ) are both printing money in an effort to jump-start their economies à la Ben Bernanke. This should help lift asset prices of foreign stocks and bonds, but will ultimately damage the value of their respective currencies.

Given U.S. stocks are at historically high valuations (as measured by 10-year P/E ratios), is there more room to run after the 200% gain since the bottom in March of 2009? Our models suggest the average annual rate of return for stocks over the next 3-5 years could be less than 4%.

Bonds: We suggest avoiding intermediate term bonds, instead focusing on a barbell or ladder approach with your bonds. I like U.S.-dollar-denominated foreign bonds. We are also investing in floating rate notes, as the coupon payments will rise along with interest rates.

Stocks: We think foreign stocks should benefit from all three themes, as valuations overseas are much more reasonable. I also think dividend-paying U.S. stocks will have an easier time holding their value if stock prices stall.

Alternative Assets: We are currently utilizing option-income strategies, investing in energy-infrastructure, and employing hedge-fund-like strategies akin to managed futures, volatility, and long/short exposure. 

Overwhelmed? Allow us to handle it for you.