Asset Allocator's Soapbox: David Hambidge

Premier investment director David Hambidge on why equities hold the key to superior long-term returns.

Following more than ten years of declines in the world’s major stockmarkets (make that 20-plus years for Japan), it is hardly surprising that investors’ love affair with equities is waning.

Certainly, from a macro perspective it is hard to make a bullish case for stocks and particularly in the developed regions, which are likely endure sub-trend growth for many years to come.

Taking the UK as an example (and we are not alone), we are about to be hit with a painful combination of higher taxes and substantial cuts in government spending, which will probably lead to a rise in unemployment. Hardly a great environment for the already debt-ridden consumer.

So, against this backdrop, why bother with equities? Surely, with interest rates likely to stay at rock-bottom levels for the foreseeable future (whatever that is, but no more than six to nine months, in my opinion), government bonds remain the answer. Yields may have plummeted of late but medium-dated issues still yield significantly more than cash.

And herein lies the problem. Investors appear to be investing with an ever-decreasing time horizon. However, I would expect those who are able and prepared to lock away their capital for five to ten years to reap substantial rewards from equities, and certainly outperform government bonds, which I believe are close to the end of their multi-decade bull market. Of course, those rewards may come much sooner, but I am certainly not calling the start of a new bull market in equities. I just believe that now is a good time to gain exposure for those investors who are prepared to look beyond next week, next month and next year.

My optimism for equities is based on a number of factors and at the top of the list is the health of the corporate sector which, unlike many governments and western consumers, is awash with cash. Much of this will ultimately be spent (hopefully wisely), or will be returned to shareholders. Then there is the case of valuation. Equities look cheap on most measures and extremely so relative to bonds, as well as now yielding more. According to Legg Mason CIO Bill Miller, US large-cap stocks are now the cheapest, relative to treasuries, since 1951. Of course, they may yet get cheaper, but it seems like a good time to me to get involved.

In spite of the headwinds faced by the developed world, we remain optimistic about the outlook for global growth over the next few years, with the emerging markets likely to contribute an increasing percentage to world GDP. This will not only continue to support emerging market equities but will also help a large number of companies listed in the UK, Europe, US and Japan that derive ever-increasing revenues from the developing world.

Our central case for equities at the beginning of the year was that markets were likely to be range bound for a while, and this remains the case. Fears of a double-dip recession and talk of Japanese-style deflation will have to recede before stocks can break out on the upside.

However, within our portfolios we remain committed to what we believe are cheap assets, with a focus on funds that invest in quality stocks with strong balance sheets while also maintaining our exposure to structured products, which collectively continue to offer an attractive risk/reward trade-off.