US investors cheer abundant returns on US equities – but have UK investors missed the thanksgiving feast?25 November 2014
As US citizens mark the “Thanksgiving Day” holiday this Thursday by sitting down to a traditional roast turkey meal it won’t just be another harvest they’ll be celebrating. After a set-back in the first quarter of 2014, US economic growth has powered ahead, helping to deliver abundant returns on US equities and pushing the S&P 500 Index to a record high. The S&P 500 has delivered a total return of 123% over the last five years, compared to 61% on the UK’s FTSE All Share Index.
However UK based investors have long been underweight the US market. On a market-cap weighted basis US companies account for 56% of the global equity markets, which is many times greater than that of the UK (8.4%). Yet according to IMA statistics, the combined assets in the North American and North American Smaller Companies represent just 7.1% of total equity funds under management. In contrast the three UK equities sectors represent 46% of total equity fund assets.
The conundrum facing investors at the moment, however, is that while the US economic recovery appears back on track, valuations on US equities look expensive. While the current price/earnings ratio on the S&P 500 Index is 18.7x (compared to 14x on the UK’s FTSE 100), on a cyclically adjusted basis the US market is on P/E of 26.5x, well ahead of the long term average cyclically-adjusted P/E of 16x.
Jason Hollands, Managing Director at Tilney Bestinvest commented: “US GDP growth has been making good progress after a blip in the first quarter this year and earnings growth at US companies has seemingly been strong. However beneath this, it is worth noting that quite a bit of profit growth in recent times has come from cost cutting and operating efficiencies rather than from revenue growth – and in this respect US companies have benefitted from cheap energy costs thanks to the Shale gas bonanza.”
“There’s only so much a company can do on driving efficiencies through, and ultimately the recovery will see costs rise as wages lift, so from here on we think US companies need to see stronger revenue growth to justify their valuations.”
“While the relative strength of the US economy compared to the anaemic growth seen in, say, the Eurozone, undoubtedly merits some sort of premium on US share valuations, US equities nevertheless look uncomfortably expensive in our view. With US indices trading at a record high, this makes us cautious on US equities. That doesn’t mean the US market is about to fall off a cliff, but investors need to tread carefully after such a strong run.”
“That caution is compounded by the fact that at the end of October the US Federal Reserve finally exited its Quantitative Easing programme which saw $4.5 trillion of asset purchases made over the last six years. Expectations of US monetary tightening have led to a strengthening of the US Dollar, a trend which we feel will continue to play out next year. While, on the one hand, that should boost returns for sterling investors in US equity funds, it also puts pressure on US exporters at a time when both China and Japan are engaged in monetary easing which should boost the competitiveness of their exports.
“That withdrawal of significant liquidity by the Fed is a factor that investors should bear in mind when looking at the alluring returns of recent years. This is a market you should own in a portfolio but a sensible approach to investing in the current backdrop might be to drip feed rather than pile new cash in aggressively.”
Where are the opportunities in the Land of Opportunity?
Hollands continued. “Large cap US equities is a graveyard for active fund management – the success rate of fund managers in this area is very poor, so there is a strong case here for long term investing through low cost index trackers – even the legendary investor Warren Buffet has been advocating such an approach. Funds we like are the HSBC American Index fund or the Vanguard S&P 500 UCITS ETF.”
“However, given our concerns over valuations, there’s a case for a smarter approach at the moment than just choosing a bog standard market-cap weighted tracker. The Invesco PowerShares RAFI US 1000 ETF weights the index based on the fundamental characteristics of companies (sales, cash flow, dividend and net assets) rather than their current market cap. In practice, this means it reins back exposure to some of those stocks with the highest valuations.
- ENDS –
The value of investments can go down as well as up and you may get back less than you originally invested. This article does not constitute personal advice.
Different funds carry varying levels of risk depending on the geographical region and industry sector in which they invest. You should make yourself aware of these specific risks prior to investing.
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About Tilney Bestinvest
Tilney Bestinvest is a leading investment and financial planning firm that builds on a heritage of more than 150 years. We look after more than £9 billion of assets on our clients’ behalf and pride ourselves on offering the very highest levels of professional client service with transparent, competitive pricing across our entire range of solutions.
We offer a range of services for clients whether they would like to have their investments managed by us, require the support of a highly qualified adviser, prefer to make their own investment decisions or want to take more than one approach. We also have a nationwide team of expert financial planners to help clients with all aspects of financial planning, including retirement planning.
We have won numerous awards including UK Wealth Manager of the Year, Low-cost SIPP Provider of the Year and Self-select ISA Provider of the Year 2013, as voted by readers of the Financial Times and Investors Chronicle. We are pleased that our greatest source of new business is personal referrals from existing clients.
Headquartered in Mayfair, London, Tilney Bestinvest employs almost 400 staff across our network of offices, giving us full UK coverage, and we combine our award-winning research and expertise to provide a personalised service to clients whatever their investment needs.
The Tilney Bestinvest Group of Companies comprises the firms Bestinvest (Brokers) Ltd (Reg. No. 2830297), Tilney Investment Management (Reg. No. 02010520), Bestinvest (Consultants) Ltd (Reg. No. 1550116) and HW Financial Services Ltd (Reg. No. 02030706) all of which are authorised and regulated by the Financial Conduct Authority. Registered office: 6 Chesterfield Gardens, Mayfair, W1J 5BQ.
For further information, please visit: www.tilneybestinvest.co.uk
Tilney is a leading investment and financial planning group that builds on a heritage of more than 180 years. Our clients are private investors, charities and professional intermediaries who trust us with over £23 billion of their assets. We offer a range of services including financial planning, investment management and advice and, through our Bestinvest service, a leading online platform for those who prefer to manage their own investments.
We have won numerous awards. Tilney has been awarded Best Conventional Advisory Service at the 2018 City of London Wealth Management Awards, Best Advisory Service in the 2015 City of London Wealth Management Awards; Investment Award – Cautious category in the Private Asset Management Awards; and Stockbroker of the Year, Execution-only Stockbroker of the Year and Self-select ISA Provider of the Year 2015, as voted by readers of the Financial Times and Investors Chronicle. Bestinvest was voted Best SIPP Provider and Best Fund Platform at the 2017 City of London Wealth Management Awards, Best Direct SIPP Provider at the YourMoney.com Awards 2017, Best Stocks & Shares ISA Provider at the 2017 Shares Awards, as well as Best Self Select ISA Provider, Best Online/Execution-only Stockbroker and Best Investment Platform 2017 at the FT and Investors Chronicle Investment and Wealth Management Awards, as voted by readers of the FT and Investors Chronicle.
Headquartered in Mayfair, London, the Tilney Group employs over 1,000 staff across our network of 30 offices, enabling us to support clients with a local service throughout the UK.