The Swiss banking giant UBS says investors should increase their weighting in global stocks, believing the recent pullback has left equities at more attractive valuations at a time of generally robust earnings growth.
The MSCI All Country World index is still around 6 per cent below its peak, “creating an opportunity for investors,” UBS said in a research note. It’s increasing its overweight recommendation in global equities versus U.S. government bonds.
“We believe the sharp market fall in October represented a correction in the context of an ongoing bull market, rather than the start of a bear market,” UBS analysts led by Mark Haefele said in the note.
UBS cited several key risks to global equities right now, including a deterioration in technicals whereby market momentum is weak, a continued rise in U.S. real interest rates, and few signs that the U.S.-China trade dispute will end anytime soon.
"Although we are mindful of the potential risks of adding to stocks against such a backdrop, we believe the scale of the sell-off has been disproportionate. Even if we use our own relatively cautious estimates on earnings for 2019, which include the expected impact of tariffs in the US and Asia and a modest slowdown in headline economic growth, valuations still look favorable. Emerging market equities are trading at a discount to the 30-year average of 13x forward earnings, on around 11x at present.
"The forward P/E of Eurozone stocks, at roughly 12x, is also below the long-term average of 14x. And although absolute valuations in the US are not as cheap, on just over 16x 12-month-forward estimate of earnings, versus a long-term average of 15.6x, they remain attractive relative to bonds: the US equity risk premium of 4.6% is above its long-term average of 3.2%.
"And, to be sure, current economic and earnings data are still supportive. With three-quarters of S&P 500 companies having reported third-quarter earnings, earnings per share are currently on track to rise by 27% y/y. Nearly 80% of firms have beaten analyst estimates, versus a longterm average of just 64%. Although Eurozone firms have reported less impressive results, with around 7% earnings-per-share growth so far, there are encouraging signs that the Eurozone economy is starting to recover from a soft patch. German industrial output picked up in September, with output rising 0.8% from a year earlier. And in China, recent PMIs came in slightly ahead of expectations, and fixed asset investment growth has shown signs of stabilization.
"The market may also be underestimating the potential for positive surprises. Expectations heading into the G20 meeting at the end of November for a trade deal between the US and China are rightly low. But a positive surprise is not impossible. Recent statements from Presidents Xi Jinping and Donald Trump have been more conciliatory, and there is precedent for initially harsh rhetoric from the Trump administration being tempered over time, notably in the cases of North Korea, NAFTA and EU auto trade. Elsewhere, China still has flexibility to ramp up its economic stimulus, and, if volatility continues or data deteriorates, the Fed could signal more flexibility in its rate hiking path than the market currently expects.
“The bull market is clearly getting more mature, and this stage of the cycle is typically associated with both higher volatility and more modest scope for further gains. But we believe that the value offered by global stocks justifies tolerating the potential for higher volatility, and we expect markets to move higher over our six-month tactical investment horizon. The presence of our counter-cyclical position – an overweight in 10-year Treasuries – should also help stabilize our portfolios amid likely volatility."