Global Equity Outlook

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Evolving Global Market Conditions Create Investment Opportunities

Higher Inflation Expectations May Weigh on Company Earnings

Vaccination rates continue to accelerate across developed markets. As vaccination rates in the U.S., U.K. and Europe approach saturation, we expect markets to reopen more aggressively. The resulting uptick in economic activity, supply constraints along with government stimulus, and accommodative monetary policy should put additional upward pressure on inflation and yields. While we don’t make specific inflation or interest rate predictions, we note that, directionally, higher inflation and yield expectations will likely pressure corporate earnings.

Higher materials costs and wage pressures also increase general operating expenses, which we expect to have a material effect on corporate earnings growth in the near term. We expect companies with the ability to raise prices to be in a much better position to pass on additional costs to end clients and sustain earnings growth.

Market Rotation Should Continue as Pandemic Eases

As economies reopen more fully, we anticipate the rotation to sectors hit hardest during the pandemic to continue. This has helped benefit cyclicals, companies with exposure to economic expansion and value-oriented companies. Recent winners, such as U.S.-based large-cap tech names with little or no earnings, are already feeling the pinch as the value of future earnings streams weakens in a rising-rate environment.

Rather than concentrate on traditional definitions of growth or value stocks, we look for companies exhibiting inflections in earnings growth rates. Consequently, we are finding opportunities in both traditional growth and value stocks. Our portfolios contain a balance of companies benefiting from the trends borne out of behavioral changes during the pandemic as well as beneficiaries of economic expansion.

Existing Secular Trends Benefit Well-Positioned Companies

The stay-at-home environment accelerated secular trends, such as digitalization, e-commerce and 5G network rollout. We expect the demand for digital services, cloud-based computing and more robust online platforms to continue even as mobility restrictions ease. Despite the noted pressure on large-cap technology company earnings, we are finding opportunities in firms positioned to benefit from these ongoing trends.

EM Outlook is Improving

Reasons for Optimism Remain Despite Recent Hurdles

The emerging markets (EM) outlook is more positive despite the earlier headwinds of higher inflation expectations and resurgence of COVID-19 cases in key markets, including India and Brazil. Vaccination rates across emerging markets, while still lagging developed markets, are accelerating. But many countries may not reach the milestone of majority vaccination until late 2021 or early 2022.

Conditions have improved in India after a new coronavirus variant caused a recent spike. Caseloads have moderated, however, and many states have now partially eased restrictions. Thus, we expect the slowdown in economic activity to be transitory. Brazil, one of the hardest-hit countries, has increased its vaccination program with new supply coming online and hopes to have its entire population vaccinated by year-end.

Continuing uncertainties around COVID-19 are weighing on emerging markets, but we believe they may delay, rather than reverse, economic recovery in this asset class.

Rising Yields and Inflation Expectations Weigh on Emerging Markets, but Dollar Weakness Helps

Improvement in global economic activity and positive revisions to global growth prospects have shifted many investors’ focus from growth to inflation. Higher rates are largely a function of earlier- and stronger-than-expected economic recovery. EM assets can handle rising yields resulting primarily from an upward rerating of global growth, rather than shifting perceptions of Fed policy. But in times of elevated rate volatility, EM assets tend to struggle when the moves happen fast (as we’ve seen recently).

While investors may question the Fed’s commitment to keeping inflation in check, we expect the central bank to maintain its patient position. Staying on that course, combined with ongoing U.S. government stimulus and support, should keep pressure on the U.S. dollar. A weaker dollar has shown to support EM economies and equities.

Global Reopening Benefits Emerging Markets

Despite the emergence of new waves of COVID-19 cases in some countries, the gradual improvement in the global health crisis has strengthened economic recovery. However, we don’t expect the pace of recovery to be uniform across all regions or countries. The strong rotation into more cyclical companies and those with greater sensitivity to growth in gross domestic product (GDP) should continue as global economic activity approaches normalization.

Banks and basic materials could see high earnings momentum. Additional potential beneficiaries include automakers, industrials and energy. We expect global economic expansion to support EM growth as stronger demand drives higher EM exports. Export demand often serves as a leading indicator of earnings growth, and economies linked to global supply chains should continue to outperform.

Figure 3 | A Weaker U.S. Dollar Supports EM Equities

Data from 12/31/2013 to 3/31/2021. Returns in USD. Source: Bloomberg, FactSet.

Q3 2021 Investment Outlook Resources

References to specific securities are for illustrative purposes only, and are not intended as recommendations to purchase or sell securities. Opinions and estimates offered constitute our judgment and, along with other portfolio data, are subject to change without notice.

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