2013 outlook: Love risk by managing it
Brian Jacobsen, Ph.D., CFA, CFP®, Chief Portfolio Strategist
Investment horizonsFor investors with an investment horizon of three years or longer, we recommend a strategic overweight to equities relative to fixed income. Over the next three months, we think investors can still be rewarded by looking at higher-yielding fixed-income investments as well as growth-oriented equities.
EquitiesWithin the equity portion of a portfolio, long-term, we think investors should look globally for opportunities. There is no one sector or country that has a monopoly on opportunities. Eurozone and Japanese equities have been battered down, as have Chinese nonbank equities, to the point where we think they represent compelling long-term investment opportunities. In Japan, there is the risk that a rapidly depreciating yen could offset any gains in securities in local-currency terms, so the outlook for monetary policy in Japan will need to be closely monitored. There is also a profound amount of pessimism built into U.S. equity prices. We think all sectors have at least a nugget of investment opportunity.
Value versus growthWe think the U.S. and global economies will grow more rapidly over the next few years than what is embedded in stock valuations across the value/growth spectrum. We tend to prefer mispriced growth opportunities, which are those companies whose growth potentials are underappreciated by the general market. We see many of these opportunities in global health care and technology names. Please note: When it comes to technology, we are not just referring to information technology but rather all those companies that help other companies convert their inputs into outputs in a more efficient way.
Large caps versus small capsA high-quality company is a high-quality company, whether large or small cap. Generally, large-cap companies have easier access to credit markets and global markets than small-cap companies, but that is not always true. There are many large-cap companies that have cash burning holes in their executives' pockets that could lead to imprudent acquisitions. As a result, we think it's also important to focus on corporate governance.
Fixed incomeBased on our economic outlook, we believe that interest rates are likely to remain low for the next year. This presents an opportunity for investors to take on additional duration and credit risk. Provided the economy does not dip into a recession, default rates should not increase, meaning increased yields on higher-yielding debt may provide better income to investors than the lower-credit-risk issues would.
Asset allocation summary table1
|Developed equities/emerging markets equities|
|Emerging markets have likely been oversold due to dire predictions about global economic growth.||Emerging markets are likely oversold, but considering the short-term uncertainty, we think it remains prudent to focus on global developed equities.|
|U.S. equities/non-U.S. developed equities|
|The ability to grow market share will likely be more important than the ability to grow earnings.||Valuations are attractive outside the U.S., but growth estimates of the U.S. economy are likely too negative.|
|Look for real growth, which can be in traditional value sectors. We think the theme for the next few years will be to identify mispriced growth opportunities. That means looking for value stocks in growth sectors and growth stocks in value sectors.||Health care and technology (not just information technology) remain our favorite areas. Growth with value characteristics or value with growth characteristics seems to offer the best investment opportunities.|
|Overweight large-cap stocks because they tend to have the dominant market share and cash to survive a volatile environment.||Large-cap stocks are attractive, but some large-cap companies may be tempted to overpay for acquiring small-cap companies.|
|The Fed claims that rates will remain low until unemployment falls below 6.5%. We think that could happen before the Fed's forecast of mid-2015. Thus, we believe you can ride low yields for a while, but not forever.||The Fed and other central banks will likely keep shortterm rates low until at least the end of 2013. Thus, we think there is little reason to fight the central banks.|
|Credit risk exposure|
|Default rates are low, but investors need to be careful about new issuances. Some of the credit risk might not be worth taking.||We think default rates will continue to fall, which should be good for high-yield debt. But it pays to be cautious, as junk issuers are getting too good of a deal.|
|Fixed rate/floating rate|
|We prefer fixed-rate short-term debt over floating-rate debt. Until the end of 2013, buying floating-rate debt might be like buying insurance for an unlikely event.||Some floating-rate debt may be prudent, but it really depends on the credit quality of the issuer. In general, we'd prefer to leave the decision to a portfolio manager who does bottom-up credit analysis.|
1The asset allocation positioning represented by the bar graphs is in no way intended to offer individualized advice about which investments to choose or how much to allocate to any particular investment option. The asset allocation dials are provided for illustration purposes only and do not predict or guarantee the performance of any Wells Fargo Advantage Fund. When applying an asset allocation strategy to your own situation, variables such as your investment objectives, time frame, income requirements and resources, inflation, and potential rates of return should be considered when you determine which investments will best suit your risk profile. Please consult a financial advisor for advice on your specific facts and circumstances.
The views expressed are as of 12-18-12 and are those of Chief Portfolio Strategist Brian Jacobsen; Chief Equity Strategist John Manley; Chief Fixed-Income Strategist James Kochan; and Wells Fargo Funds Management, LLC. The information and statistics in this report have been obtained from sources we believe to be reliable but are not guaranteed by us to be accurate or complete. Any and all earnings, projections, and estimates assume certain conditions and industry developments, which are subject to change. The opinions stated are those of the authors and are not intended to be used as investment advice. The views and any forward-looking statements are subject to change at any time in response to changing circumstances in the market and are not intended to predict or guarantee the future performance of any individual security, market sector or the markets generally, or any mutual fund. Wells Fargo Funds Management, LLC, disclaims any obligation to publicly update or revise any views expressed or forward-looking statements.