The current bull market is now at eight years and counting, but OppenheimerFunds’ Chief Investment Officer Krishna Memani sees no end in sight to the market’s upward climb.
Nevertheless, there is no shortage of issues to keep markets and investors on edge. From the ongoing debate about U.S. tax policy, to the future of the North American Free Trade Agreement (NAFTA) – as well as uncertainty about the future of the Fed, there are plenty of risks to the market outlook.
Memani recently joined Steve Forbes, Chairman and Editor-in-Chief of Forbes Media, to discuss the market outlook through year-end and beyond. During their conversation, they touched on the future of active management, signs that this bull market is coming to an end, and the likelihood of the Trump administration passing a tax bill.
Here are some highlights from their talk.
Steve Forbes: This extraordinary bull market just seems to go on and on. For the bond market, people have been waiting over 10 years for a correction, and we’ve never really had a big one. So the big question – is this cycle on the verge of ending?
Krishna Memani: Ever since the financial crisis people have been looking for another disaster – and it hasn’t arrived. I believe the same thing is true today as it has been for a while. That is, the likelihood that the cycle ends any time soon, in our judgement, is small.
This is probably going to be one of the longest business cycles, one of the longest credit cycles – and one of the longest market cycles any of us has ever experienced. The driver of that is easy money and lack of animal spirits across the board in the global economy – especially in developed markets.
In my judgement, the biggest signs of the cycle potentially ending would be inflation heating up in a meaningful way in developed markets. If that happens, Fed policy will tighten. Central bank policy will tighten on a global basis much more rapidly than what we are anticipating today.
And specifically, developed market currencies will strengthen a lot, which will have significant negative consequences for growth, sentiment and the investment cycle in the U.S.
Forbes: Let’s touch on the Fed for a moment. The president could totally remake the Fed. Rates are likely to rise in December. Do you see rates continuing to rise? And what impact would that have on the equity and bond markets? Also, are we in a period where, for the first time in decades you can see a time where we have an inverted yield curve?
Memani: The reality is we could have a totally different Fed 12 months from now, so any forecast you make has to be contingent on that.
From a Fed policy standpoint, our expectation is December is pretty much in the bag. They are forecasting three Fed tightenings next year. We think one, maybe two at most materialize and the curve will flatten, but not invert.
If the curve inverts, I think that’s telling you the inflation outlook in the U.S. has deteriorated even though the investment cycle hasn’t picked up in a meaningful way. That will probably forecast an impending slowdown, if not a recession in 2019. Nevertheless, we believe the likelihood of the Fed following through on all three tightenings that they’ve broadcast already is reasonably small at this point.
Forbes: A potential tax bill is still on the table. How likely is it that we get one and how do you factor that uncertainty in? What will disappoint the markets? What will surprise the markets in a positive way?
Memani: Our judgement is the likelihood of a tax bill passing isn’t significantly baked into the market. When we came out of Trump’s election, things were looking really good and value stocks were doing well. Rates were rising – the classic signs of a cyclical rebound. All of that has been priced out. As a result, I don’t think there’s a significant amount of tax cut-related oomph built into the equity markets.
If we don’t get anything, I think the markets will have a bit of disappointment, but they will work through that relatively easily. On the other hand, if we get a significant tax policy that has a meaningful impact on the growth outlook, I think we may revisit the way markets reacted following the election. In my view, that is probably an unlikely outcome.
They will probably pass something, which may be a good outcome for the economy from a longer-term perspective. However, it probably isn’t going to be substantial and growth positive in the near term, and therefore the impact on the markets and economy will be modest.
Forbes: NAFTA is another potential cloud on the horizon. Not to mention what’s happened in the Pacific, as well as Brexit. All of these issues can potentially be very disruptive. Or is this just a lot of noise at the end of the day – and markets will continue to move forward?
Memani: Hopefully the NAFTA negotiations don’t lead to a self-inflicted wound. Hopefully, despite all the posturing we’ll find a way to negotiate something where everyone can declare victory.
Brexit, I think really is a far more important issue for the UK than it is for the rest of the world, given the size of the economy. Initially, the expectation was that the rest of Europe would start falling apart because of Brexit. Instead, it has brought the rest of Europe together. At the end of the day, if Brexit remains contained within the UK, it will be bad for the UK. But the likelihood that it ends up a really bad outcome for the rest of the world is small.
I think issues like in Catalonia have been percolating the world for a long time and will continue to be with us. But the likelihood they end up driving the market is small.
Forbes: Why does active management continue to remain relevant?
Memani: Passive and active is a good debate, but in our judgement, it is more cyclical than it is secular. That is, given what has happened since the financial crisis from a policymaking standpoint where policy was easy – everything acted alike. In that sort of environment, differentiating between companies was difficult to do. But that is changing. Policy will not be as easy as it has been and emerging markets are positioned to do well.
In emerging markets, when you buy a passive strategy, you effectively buy large-capitalization companies in those markets. Unfortunately, the growth outlook for those companies – especially in places like China, Brazil and Russia, isn’t strong. They’re not where the innovation is coming from, in my view.
Innovation in emerging markets is currently coming from the consumer sector, and those companies are now a significantly smaller portion of the overall benchmarks. So given where policy is going and where valuations are, and where the growth will come from over the next two, three years – from a cyclical standpoint ̶ I believe the outlook for active management today is as good as it was before the crisis.
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