Despite heightened political risk, 2017 turned out to be a good year for equity markets. Looking forward, the global economy looks set to continue to grow at 3% per annum, but will this growth continue to reward equity investors over the long term?
Our view is that equities will continue to deliver the best long term returns compared to the alternatives of cash and fixed income. There are two main reasons for this. First, starting dividend yields are very attractive on a relative basis. The FTSE All Share, for example, yields approximately 3.6%. In contrast, cash savings rates and gilt yields remain remarkably low. Second, equity dividends should continue to grow from this attractive starting point thanks to underlying economic growth. Whilst there will at some point be another recession or crisis, growth over the long term is remarkably robust.
Having said this, we apply two important caveats. First, we expect equity returns to moderate. Global equities are up nearly 200% since reaching a post Financial Crisis low in 2009, driven by economic recovery, monetary stimulus and a starting point of cheap valuations. However, it seems unlikely that these strong returns will be repeated over the next ten years. This is because the starting point is less attractive. Compared to 2009, debt levels are higher, valuations are higher, and monetary policy has started to tighten. Second, short term risks are elevated thanks to valuation bubbles in certain parts of the market at a time of heightened political risk.
The key to equity ownership is to ensure you are never in the position of being a forced seller when markets are weak - we help manage this risk for our clients via the tools of diversification and asset allocation.