Uncertainty Tinges Optimism in 2017 Market Outlook

“Never before—not even during the global financial crisis—have investors come to us so concerned with such specific questions about the movements of the markets and governments around the world,” one expert observes.

At the beginning of each year, PLANSPONSOR is lucky to receive a flood of market outlook commentary from all across the investment services provider spectrum; the resulting mosaic of opinion presents some real food for thought when planning the year of coverage ahead.

One of the most thorough outlooks shared annually comes from Bob Doll, senior portfolio manager and chief equity strategist for Nuveen Asset Management, who offers up a series of predictions pertaining to anticipated market performance over the coming year.  

Doll is quick to warn that very rarely do all of his predictions pan out—but there are a lot of signals one can look to right now for an idea about how the markets may behave in the months ahead, he says. Last year he got “about eight-and-a-half out of 10 right,” including calling the Republican sweep of the legislative and executive branches of the federal government and predicting that markets would “muddle their way through to positive annual returns.”

For 2017, Doll anticipates “a lasting atmosphere of optimistic uncertainty hanging over from the bizarre election cycle we just came through.” He pins half of the late-2016 equity rally to business optimism following the election—mainly tied to anticipated tax reform and deregulation—while the other half of the rally “derived from the positive macroeconomic news that emerged during Q4 but was obscured by the election fight.”

Beyond the backward-looking data, there are clear indicators business leadership and labor confidence are both rising, Doll continues, leading to his first prediction: “U.S. growth will improve modestly and reach roughly 2.5% real GDP growth after inflation.” Tied to this, Doll believes inflation has bottomed out in the U.S., while “consumer confidence will keep punching higher.”

Sharing another prediction,  Doll suggests unemployment will continue to fall in 2017 while wages will continue their slow climb. Treasury yields and interest rates generally can be expected to rise, he predicts, while equity markets “will have the most momentum during the first half of 2017, with price-to-earnings pressure potentially emerging in the second half of the year to dampen performance.”

“Stocks will beat bonds but there will be increasing volatility in each asset class,” Doll feels. “Active manager performance will improve in this environment, but the trend toward passive investing should also be expected to continue.”

NEXT: Setting the tone for 2017 

Doll goes on to predict that the picture could shift “as Trump Administration optimism and uncertainty fade in the face of the slow and tedious process of actual governance.”

“Investors can be confident, but they should keep their seatbelts on,” Doll concludes.

His commentary shares some similarities with Northern Trust’s 2017 Investment Outlook, subtitled “Upward Bound – U.S. Growth Prospects Improve vs. Global Economy.” As Northern Trust Chief Investment Strategist Jim McDonald and Investment Strategist Daniel Phillips explain, policy changes resulting from the 2016 elections “could very likely nudge the U.S. economy into a higher growth channel in 2017,” making U.S. equities and high yield bonds more attractive than other global risk assets over the next 12 months.

“The prospect of tax cuts, regulatory reform and fiscal stimulus by the incoming administration and Congress moved the U.S. growth outlook from below 2% to between 2.0% and 2.5%,” McDonald and Phillips argue. “Other developed economies are projected to grow less than 1.5% in 2017.”

According to Northern Trust’s outlook, the “primary risk scenario” for the U.S. is higher-than-expected inflation and an aggressive response by the Federal Reserve, with higher interest rates having the potential to pressure equity valuations and increase market volatility.

The 2017 outlook adopts a near-term investment theme, “Upward Bound,” to describe both the potential upside for growth, inflation and interest rates over the next year, “and the risk that those upward movements could put a lid on equity valuations.”

“Two populist events have occurred and they impacted markets differently. Brexit pushed European growth estimates and global interest rates lower, while the U.S. election had the opposite effect on the U.S. outlook,” the Northern Trust outlook concludes. “The U.S. election appears to be a turning point for slow growth angst in the U.S.; anecdotal evidence suggests companies are willing to start spending. But the extrapolation to the global picture remains uncertain.”

NEXT: Other voices, similar messages 

Zooming in on the outlook of individual retirement plan investors presents a similarly optimistic picture.

The Wells Fargo/Gallup Investor and Retirement Optimism Index, for example, increased heading into the new year for the third straight quarter, bringing the year-end 2016 reading to a nine-year high. The index, which gauges individual investor optimism, now registers +96, up from +79 in the third quarter of 2016.

Among retired investors, the optimism index improved 36 points to +117 while increasing 11 points among non-retired investors to +89. Of the seven index components, investor optimism improved the most on the 12-month outlook for economic growth. Fifty-seven percent of investors, up from 45% in the third quarter, are now optimistic about economic growth, while only 27% are pessimistic, down from 35%.

On-the-ground investors’ outlook for unemployment also improved in the fourth quarter, with 52% feeling optimistic the metric will improve, up from 47%. Fifty-four percent of investors are now optimistic about the stock market. That is little changed from 51% last quarter but sharply higher than in the first quarter of 2016 when it was 32%.

“Rising investor optimism and the stock market reaching all-time highs is great news to end the year on, but it isn’t necessarily driving investors to put their money into the markets,” warns Scott Wren, senior global equity strategist for Wells Fargo Investment Institute. “Investors are more interested in the markets, but it takes time for this optimism to translate to flows into the stock market, especially when investors have been cautious for so long.”

When thinking about the impact of this year’s presidential and Congressional elections, 46% of investors say the outcome of the election makes them feel more optimistic about the U.S. economy over the next 12 months, eclipsing the 38% who say it makes them feel less optimistic. Another 15% say the election has had no effect on their expectations for the economy.

“There’s a reason for the optimism as the U.S. economy is slowly chugging along. Whether the markets are experiencing a post-election or Santa Claus rally, investors should continue to focus on the fundamentals, valuations, and where the economy and earnings are headed over the next six to 12 months,” Wren said.

NEXT: A message for investors 

Among the other voices weighing in with 2017 outlook commentary is Vanguard CEO Bill McNabb.

“I’m truly struck by the questions we’ve been receiving from investors,” McNabb observes. “Never before—not even during the global financial crisis—have investors come to us so concerned with such specific questions about the movements of the markets and governments around the world.”

McNabb speculates this is because of the perception that we’re living in unprecedented times.

“In that respect, we certainly can’t predict what 2017 will bring,” he warns. “And if you know Vanguard, you should know not to expect hot stock tips or sure bets … But I do have some suggestions for investors that I believe are can’t lose ideas.”

First is “prepare for uncertainty.” Several political and economic events caught observers by surprise in 2016, McNabb observes, including the results of the Brexit vote in the United Kingdom and the presidential election in the United States.

“Markets respond to surprises with volatility, and we expect more surprises in 2017,” he says. With a new administration in the U.S. comes the potential for changes to policies that affect investors. Some changes may benefit investors; some may trigger market volatility. The best approach for investors in any environment is to maintain a long-term perspective and a balanced and diversified portfolio.”

In this environment, it will also be crucial to save more to make up for any weakness in returns.

“In addition to the potential for near-term volatility, we expect the stock and bond markets to produce lower returns in the next 10 years than they have over the past several decades. If markets produce less, that places the burden on investors to save more,” McNabb concludes. “We recommend that retirement investors save 12% to 15% of their income, including any employer match. Saving more is an asymmetrical proposition. If you don’t save enough and the markets don’t bail you out, there’s nothing you can do. If you over save and do well, then great—you can retire a few years earlier. “