Equity investors in a very different equity environment in 2019 could witness a “year of two halves,” says Michael Grant. While the focus will be primarily on capital protection through most of the first half of the year, the second half could present a tradable recovery, according to Grant, Calamos Co-CIO, Sr. Co-Portfolio Manager of Calamos Phineus Long/Short Fund (CPLIX), and Head of Global Long/Short Strategies.
In his 2018 Annual Review and 2019 Outlook, Grant elaborates on why he believes the global cyclical downturn could be entering its most challenging phase.
“By nature, inflection points are rarely clear,” he says. “We suspect the U.S. and other major economies will slow further in 2019, which implies we could eventually see easing efforts by the major central banks. The risk is that these come too late and are too modest to avoid a lengthy period of slow economic growth, although recession could still be avoided in the U.S.”
The Fed tightening cycle is over, Grant believes. The more difficult question is when does the easing begin, given that U.S. economic activity is not slowing rapidly. Labor compensation, in particular, should continue to strengthen through the first half.
The Fed is torn between the objective of achieving interest rate normalization and the reality of signals pointing toward a slowing economy, says Grant.
Maintaining that credit risk in many parts of the world has been camouflaged by “a decade of financial repression” (see Grant’s perspective in Reclaiming the Investor Psyche: A Roadmap), he singles out the corporate credit cycle as “decisive” in the Global Long/Short Strategies team’s outlook for the year.
“…The troubles in corporate credit appear incomplete. While the de-rating of equities is advanced, the real question is when will we see a decisive reversal in the forces driving corporate credit. As long as corporate profit growth decelerates through coming quarters, we are skeptical that corporate credit will notably improve.”
Grant considers the “excessive growth in debt” one of the vulnerabilities of the current cycle.
He continues to be positive on the public banking industry exposed to the healthiest global cohort: the U.S. consumer. But corporate borrowing has been very aggressive in the shadow banking system (e.g., private equity), with some of the money going into equities in the form of share buybacks.
“Cutting off this source of funding for equities could have a direct impact on equity markets as well as an indirect impact on the economy,” says Grant.
Much of the global risk facing investors is in Europe (including the uncertainty of Brexit tensions) and China, possibly already in recession.
When could advisors expect a sustained equity recovery? Grant offers this:
“We view the 2600-2700 threshold on the S&P 500, or the equity lows recorded in Q1 2018 and October, as the ceiling until this transition [to a downward revision of expectations] is complete. The silver lining is that the acceleration of the de-rating of equities implies the downtrend could be exhausted by the middle of 2019. It could be exhausted by March if we see a breakthrough in the China/US confrontation.
“If equities succumb to another move lower, say near 2300 for the S&P 500 (a retest of the 200 weekly moving average), we anticipate increasing our net equity exposures. At 2300, the S&P 500 would trade near 13x 2019 earnings.”
Grant’s full commentary is available for financial advisors only. Advisors, please contact your Calamos Investment Consultant at 888-571-2567 or email@example.com.
Calamos is the fourth largest alternatives manager by assets under management and #1 in alternative flows for 2018 (Morningstar data, 12/31/18).