A top Wall Street forecaster told me how to beat the stock market from here: Buy a Treasury bill. I would leak the tip on Reddit, but I’m not sure how many moon rocket emojis to use.
A six-month Treasury yields 5.1%. That’s close to the “earnings yield” of the
or earnings as a percentage of price. On that basis, safe bonds are the best deal they’ve been relative to stocks in decades.
“I’m hearing a lot of really smart equity guys asking that question, which is, ‘Help me make the case. Why do I need to be in U.S. equities?’ ” says Jonathan Golub, chief U.S. equity strategist at Credit Suisse. “And I say to them, ‘It’s not my job to make the case.’ ”
Investors who can commit for 10 years or more should stick with stocks, but their returns are likely to be lower than they’re used to, says Golub. Near term, defensive stocks don’t look great. Big tech is worse. Favor consumer stocks and healthcare. And if you’re worried about a market swoon, buy a hedge, which for now happens to be cheap.
At the center of Golub’s outlook is something called uninversion, which sounds like yoga, and rightly so, because I might pull a hamstring trying to explain it. Long-bond yields are currently lower than short ones; the 10-year Treasury recently paid less than 4%. That’s an unusual condition known as an inverted yield curve—“curve” referring to the shape of yields plotted on a graph. It can mean that investors expect the economy to slow. They’re usually right.
Credit Suisse counts six yield-curve inversions over the past 50 years, with economic recessions following each by an average of 11 months. The current inversion started in October, so we should be due for growth to stall out by the end of summer. But instead, we won’t get a recession until late 2025, reckons Golub. That’s because what matters most for the timing of these things is when the yield curve uninverts, and that won’t happen soon, judging by pricing on Treasury futures.
Expect tepid growth, elevated but not fierce inflation, and meager earnings gains. Things won’t be bad enough for defensives to earn their keep. Credit Suisse’s S&P 500 target implies just 3% upside through the rest of the year. What investors could use is a source of “secular growth,” or growth that doesn’t depend on a strong economy. Big tech has long been just that, but it doesn’t look particularly growthy right now. During the fourth quarter, market earnings shrank 2% with tech stocks included, and expanded 5% without them.
Golub calls consumer stocks, healthcare, and energy “reasonably attractive.” For investors who are worried about a crash, the stock market’s volatility index implies little fear of one, which means using options to make a long-shot bet on one is cheaper than usual.
BofA Research recommends “outdexing,” or owning the S&P 500 index, minus industries that don’t look likely to beat the 5% to 6% that investors can collect on cash and safe bonds. Most industries fall short, it turns out. Out of 24, BofA likes seven, especially energy, media and entertainment, and telecom. Also included are banks, real estate, transportation, and pharma.
The cheap stuff is even cheaper than usual, which means returns there could be good, or as the firm’s strategists put it, “valuation dispersion within the S&P 500 suggests bigger alpha potential than usual.”
As tempting as it sounds to, um, outdex my way through the uninversion for big alpha, what if I just keep plunking savings into the broad stock market? BofA says that the S&P 500 is priced for 5% average yearly gains plus dividends over the next decade, which is a few points more than the 10-year Treasury yield. Plunk it is, then.
Duck and Coverage
If you couldn’t make it to this year’s Association of Insurance and Financial Analysts annual conference in Naples, Fla., you missed a humdinger of a panel discussion on annuities. Or so I imagine. Morgan Stanley was there, and it described the mood as “cautious optimism.” I suppose that’s a fair summary of the business model, too. If you’re going to write me a life insurance policy, you have to be optimistic enough to think that I won’t keel over by Thursday, but cautious enough to not sell too cheaply.
That’s only part of it. Since insurance companies typically charge today for benefits that they won’t provide for many years, if ever, a big part of the job is earning decent returns on safe investments. That looked impossible for about a decade. Now good yields on safe investments abound. Hence, the optimism. But if rates rise too quickly, the economy could go kablooey, which brings us back to the caution.
Companies are watching for signs of credit deterioration, but not seeing them yet, writes Morgan Stanley. Its top picks in the group are
(ticker: EQH), where it sees more than 50% upside;
(MET), 30%; and
I spoke this past week with Fred Crawford, the chief operating officer at Aflac, who is seen as a favorite to succeed the insurer’s 71-year-old CEO, Dan Amos. Aflac sells supplemental insurance that covers major diseases and accidents. It’s for families that might struggle to come up with several thousand dollars to pay out-of-pocket expenses that their main insurance doesn’t cover.
Aflac has high market share in Japan, with more room for growth in the U.S. Crawford says that the company is focused on small businesses that send workers to insurance exchanges for major medical coverage, but want to provide extra coverage at low cost in-house.
Aflac’s targeted approach is a competitive strength. So is the duck, which helps keep advertising costs low for a company of Aflac’s size. “It performs as well or better than any other ad campaign we can come up with,” says Crawford. “And interestingly, Jack, negotiations with the duck go pretty well each year.”
Write to Jack Hough at firstname.lastname@example.org. Follow him on Twitter and subscribe to his Barron’s Streetwise podcast.
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