Waddell & Reed

Market Perspectives


Trends and tips as the calendar turns: 13 ideas for 2013

Story Highlights

  • In 2013, we believe:
  • U.S. GDP should rise, driven by housing, energy and industrial sectors.
  • Stocks should outperform bonds in the U.S., mostly on the strength of price-to-earnings expansion.
  • The international economy will improve.
  • China's growth rate will stop decelerating
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Investment Team

Manager Name

Hank Herrmann

CEO

The opening of a new calendar year often brings more questions than answers, and this year is no exception. But rather than focus on the debate or the unknowns, financial advisors and investors are better off looking at the opportunities and implications. What can we learn from what we know at this point?

In the spirit of a fresh calendar, and despite some lingering baggage from the old year, here are 13 economic and political perspectives for 2013. We specifically chose not to number them because they are not in priority order, but cover a range of investment issues that we may encounter in the coming year.

     
  • Dodging the fiscal cliff boosts financial markets. As anticipated, politicians took us to the brink of the cliff, and a little beyond, before crafting a limited deal that kicked many of the issues to later in the year. We do know that income taxes will increase on the top 2% of wage earners, taxes on capital gains and dividend income also will rise, the reduction in payroll taxes expires, the alternative minimum tax is tied to inflation, and decisions on government debt and the budget deficit are delayed for at least two months. The fact that some decision was reached is positive for financial markets in the short term. Significant action regarding government spending will need to be enacted before business and investor confidence can be fully restored.
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  • We’ll see a rise in U.S. GDP in 2013. As we get past the government policy debates, we anticipate that U.S. economic growth will improve. It won’t be consistent, and is likely to start out slow, but should get better in the second half of the year. We believe we’ll see positive real growth in GDP in the U.S around 2%. That growth, we believe, primarily will be driven by three sectors of the market:

    Housing: As the unemployment rate comes down and as the economy stabilizes, we’re likely to continue to see an increase in new home demand. An improving housing sector benefits many areas, including construction materials, durable goods, consumer discretionary goods, and so forth.

    Energy: Non-conventional energy resources, particularly shale oil and gas, are creating an upswing in exploration, development and production in the U.S. energy patch.

    Industrials: The new supply of energy has boosted the need to rejuvenate old refineries, build new ones, lay pipeline and build out infrastructure for transportation. Add in new home construction, and you see industries in position for a phase of resurgence.

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  • Job growth will expand in the U.S., largely on the strength of the three legs of growth mentioned in the previous point. Companies involved in these sectors are engaged in labor intensive enterprises, and growth should encourage hiring. In addition, as economies in international markets stabilize and improve, it should gradually increase demand among certain U.S. manufacturers, spurring job growth here.
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  • Interest rates in the U.S. are likely to fluctuate within a narrow, but rising, band. Long-term Treasury rates have already risen some as investors have become somewhat less risk averse. The Federal Reserve has tied maintaining the historically low short-term rates to unemployment and inflation targets for the first time ever. Fed funds rates will stay where they are until unemployment drops to 6.5% or until rising inflation forces policymakers’ hands. Neither of these appears imminent.
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  • Stocks will outperform bonds in the U.S., mostly on the strength of price-to-earnings ratio (P/E) expansion associated with less uncertainty surrounding government policy. Corporate balance sheets in the U.S. are strong, and stock valuations remain reasonable, especially given low interest rates.
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  • Investors will return to equities. As a corollary to the above point, investors will begin to reverse the money flow from bonds in the coming year, as bond returns likely will be quite modest. As market sentiment improves, investors should move toward equities and equity risk aversion should dissipate.
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  • Dividends will remain an important driver as investors continue to search for income. This has and will continue to lead investors toward solid, dividend- paying stocks, despite some tax increases on dividends. The dividend yield on the S&P 500 Index currently is higher than most Treasuries and certificates of deposit. Many companies are choosing to use excess cash to initiate or increase dividend payments to shareholders. This is especially true of large U.S. companies and multi-national companies that continue to find success providing products or resources to developing markets around the world.
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  • Business confidence will improve in the U.S., and we will begin to see more aggressive investment in the future. Again, as the drama of the government policy debates wanes, it brings good news for businesses. This brings more willingness to increase capital expenditures, boosting hiring. All of this is good for economic growth and good for investors.
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  • Europe has put a stopper in the bottle. European Union officials have addressed the bank liquidity and sovereign financing crises. There is still no fiscal union, and a lot of uncertainty surrounding how EU members might ever build consensus on that point. The developed European economies overall are likely to muddle through this year, with very modest growth in Europe’s core countries. But, if the economies across the EU merely stabilize, that is good news for investors.
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  • The international economic environment will improve. Based on the above assessment of the euro zone, along with growth in most emerging markets, we see the global economy growing at approximately 3% over the year. While not robust, the global economy will be stronger than it was in 2012.
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  • China’s growth rate will stop decelerating. China remains the world’s growth story. While growth will remain lower than the double digit levels we saw a few years ago, we’ll still see an approximate 7% rate in real GDP growth in China this year. New leadership is very aware of the need to manage the interplay between growth and inflation. They also have a stronger awareness of the need to manage the country’s influential place in global trade and manufacturing, which should help stabilize growth over time.
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  • Japan will stimulate aggressively in an effort to prevent continued recession. In a late- 2012 election, Japan returned its Liberal Democratic Party to power, with a mandate to strengthen the domestic economy. Even given its macro challenges, undervalued companies there appear to provide good investment opportunities.
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  • The U.S. government will remain intrusive, but on less important issues. Though this comes in as the final entry on the list, it remains an important point. Uncertain government policy regarding taxes and spending has unquestionably held back financial markets. This issue won’t go away immediately, but will become less significant this year, as policy debate ultimately reaches conclusion. Markets and companies should react favorably to that, and investors will benefit.

The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered to represent the U.S. stock market. Investments cannot be made directly in an index.

Past performance is not a guarantee of future results. The opinions expressed in this article are those of Mr. Herrmann and are current through January 2013. Mr. Herrmann’s views are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. Waddell & Reed Financial, Inc. is the ultimate parent company of Waddell & Reed, Inc.

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