Commentary on the US Equity Market from Paul Atkinson, Head of North American Equities at Aberdeen Asset Management and Manager of the North American Income Investment Trust.
US Independence Day - more popularly known to Americans as "the Fourth of July" - is a celebration of the signing of the original 13 US colonies' Declaration of Independence from Great Britain on that date in 1776 in Philadelphia, a city which is also home to Aberdeen Asset Management's US headquarters. The event is largely considered to coincide with the official start of the American Revolutionary War despite several military battles having been fought between the Continental and British armies over the previous 15 months, most notably due to colonists' staunch opposition to "taxation without representation" which was laid out in the Stamp Act in 1765. The result of eventual independence remains very much core to the American spirit. We are also reminded that, as a country, America has nonetheless become less economically independent over recent decades given the proliferation of global trade, which has made the economy more sensitive to the health of other regions.
As July 4th sits squarely in the middle of the calendar year, this as an opportunity to reflect on recent market events, and think about what the balance of the year may hold. Earlier in 2012, it appeared that the US economic recovery was on track; more recently, however, data reports have proved to be mixed. US gross domestic product (GDP) rose by a lower-than-expected 1.9% annualised rate in the first quarter - down significantly from the 3.0% rate in
the fourth quarter of 2011. The relatively lower growth rate was attributable primarily to a decrease in government expenditures at the federal, state and local levels, as well as an increase in imports (which are subtracted from GDP). Government spending cuts also have had led to a reduction in payrolls, subsequently contributing to the sluggish employment data. The 8.2% unemployment rate for May remained well above the five-year average of about 6%. That said, growth has thus far remained positive, and the sustainability and degree of future growth is the main question, given continuing noise from Europe, but also admittedly issues within our own borders and control.
Indeed, the European fiscal crisis continues to weigh heavily on US market sentiment. The results of the recent Greek national election emphasise the importance of the democratic process in that nation. Prior to the election, in which the pro-austerity New Democracy party won a narrow majority, news of Greece's possible departure from the Eurozone spurred fears of an exodus by other financially troubled nations in the region - most notably Spain.
Although the United States of America declared its independence more than two centuries ago, the nation remains dependent upon other countries as energy sources and, indeed, even as outlets for trade and economic growth.
Other European countries' finances remain under pressure and scrutiny, and there is also no sign yet of the collective political will or exact balance of austerity and stimulus measures required to implement a long-term strategy to resolve the ongoing crisis in the region. Additionally, there is evidence of a moderate economic slowdown in China, with recent reports of decelerating growth in industrial activity, retail spending, trade and fixed investment, as well as a weakening property market. As S&P 500 Index companies currently derive over 40% of their business from overseas markets, the financial turmoil in Europe and/or any notable deceleration of growth in China ultimately could have an adverse impact on US corporate profitability. As such, we expect markets to remain volatile amid the evolution of political events across Europe.
Ironically, the American electoral system has its roots in Greece, which generally is credited with establishing the first democratic form of government around 500 BC. An evolving system of multiple political parties in the US, however, did not materialise until the presidential election of 1800, in which Federalist John Adams, the nation's second chief executive, lost his bid for a second term to Thomas Jefferson of the newly minted Democratic-Republican Party - the forerunner of the current Democratic Party. Over two centuries later, Americans will yet again go to the polls in November to vote in the quadrennial US presidential election. The election of 2012 matches the incumbent, Barack Obama, a Democrat, against Mitt Romney, the presumptive Republican Party nominee.
There are multiple issues on voters' minds and the candidates' agendas this year, including the economy (always a major talking point for candidates on both sides of the political aisle); the nation's fiscal and budget deficits; and the uncertain path of healthcare reform. In our view, US lawmakers will need to make some politically difficult decisions regarding the nation's fiscal deficit. Placing important government programs on a random ‘chopping block' is not the way to deal effectively with the government's long-term fiscal problems. We also believe that there probably are few lawmakers who would want to face the possible political fallout from these actions - especially in an election year. In our opinion, the results of the presidential and Congressional elections most likely will hinge on the voters' perception of which political party can deal more effectively with these crucial issues in the future.
We are generally more optimistic about the overall health of corporate America than about the macroeconomic landscape. US corporate balance sheets generally sit with high cash positions or low leverage relative to historical standards as management teams continue to be wary of investing against the backdrop of the sluggish but, more so, uncertain global economy. Although we still believe that companies will make both strategic and financial acquisitions while also investing in certain areas, many have turned to returning more cash to shareholders in the form of increased share buybacks, regular dividends, or through one-time ‘special' dividends. From a macroeconomic standpoint, we view continued high unemployment levels, stagnant wage growth, lack of a housing recovery and global fiscal issues as the potential downside risks to the broader market's near-term expectations.
Even as Aberdeen's North American Equity team celebrates the holiday in the US city known as the ‘Cradle of Liberty,' we will maintain our commitment to finding what we feel are solid long-term opportunities in North American companies.
Paul Atkinson
Head of North American Equities and manager of the North American Income Investment Trust
Aberdeen Asset Management
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