Fri, 4 Oct 2013
Panelists assess the government shutdown, the Fed's next move, prospects for emerging markets, the odds for inflation, and the future for U.S. growth.
Jason Stipp: I'm Jason Stipp for Morningstar, and welcome to a special conference edition of The Friday Five. We're here at the Morningstar ETF Invest Conference in Chicago, and joining me, as always, is Morningstar markets editor Jeremy Glaser.
Jeremy, thanks for being here.
Jeremy Glaser: My pleasure, Jason.
Stipp: You have five big takeaways so far from the ETF Invest Conference; what are they?
Glaser: We've heard a lot from a number of strategists about the macroeconomic picture. I think the five big themes that stood out were about the government shutdown, the Federal Reserve, emerging markets, inflation, and finally, the future of growth.
Stipp: Let's talk about what's on everyone's mind, both inside and outside the conference, that's the current shutdown, and also on the horizon the debt ceiling. What are some of the opinions we've heard from presenters so far?
Glaser: This has been by far the biggest topic of conversation. In almost every session, it seems to have come up. The general consensus probably won't be a big surprise to most investors who have been following it so far. That's that the shutdown, as long as it remains relatively short in duration, isn't going to have a major impact on economic growth. Yes, without those paychecks going out, it might shave some growth in the near term, but the long-term impact probably isn't going to be that major.
However, there was a lot more discussion about how the debt ceiling is a much bigger deal and how we should probably be more focused on that from a systemic risk standpoint. Douglas Hodge, who is from PIMCO, talked about the debt ceiling as being a potential problem. He said he thinks that if we did trip over that date, that basically the Treasury would find a way to prioritize those debt payments and we wouldn't actually default. Even if we had to make some big cuts to other programs, he thinks those cuts would be so unpalatable that we'd very quickly come to an agreement, and it wouldn't be such a big deal.
Heidi Richardson from BlackRock was a little bit more concerned. She said that [the debt ceiling] could potentially be a bigger issue. And Austan Goolsbee, who used to be the chair of the Council of Economic Advisers, and who probably had a front-row seat to a lot of this before he left, thinks that we are just going to keep lurching from crisis to crisis when it comes to things like the debt ceiling and this current shutdown.
But generally, people felt like the government would come together eventually on the debt ceiling issue. It's not something … you should fret about too much, but it is absolutely one of the key risks in the short to medium term--if not this time, then when we do this again and again, assuming that no long-term deal is able to be reached.
Stipp: Another topic of conversation is the Federal Reserve. Of course, the Fed is very active in the market. The tapering was going to happen, then wasn't going to happen. The markets reacted in different ways. We still have some question marks on the Fed. What are you hearing?
Glaser: I don't think there was a lot of clarity from the presenters and from different people we heard from at the conference about what the Fed is going to do and what the impact is going to be. The timeline still remains very fuzzy, and the government shutdown has probably made it fuzzier. Heidi Richardson of BlackRock mentioned that the delay of the jobs report probably makes it even less likely that we are bound to see an October taper. That could push things off into December, if not even later.
So, it seems like that imminent tapering might have been pushed back a bit, but the real question is, what's going to happen over the long term? When are short-term rates actually going to start rising? And almost everyone agreed that's still a few years out; even though we could see some volatility in the Treasury market as the Fed moves in and out of different types of markets, it's still going to be a while before we really see those short-term rates rise and we start to feel the impact of that.
In the meantime, the volatility makes investing in fixed income that much more difficult. This is a sleeve of people's portfolios that they think of as being much more stable, as being that ballast to other asset classes. But over the next few years, that might be less the case than it has been historically. Investors need to be prepared for that and need to think about what their exposure is, what their duration looks like, if they want to be taking on credit risk. Those are important questions we are asking now, because they are going to be crucial to what returns look like and if we're able to stay the course as the Fed finally exits from its extraordinary policies in the years to come.
Stipp: When the Fed first started talking about tapering in the spring, of course, we saw an impact on the fixed-income market, but we also saw an impact on emerging markets. Emerging markets took a hit when it looked like the Fed was going to taper and interest rates went up. There was a panel on emerging markets talking about both the fundamentals and their recent performance. What were some of the takeaways there?
Glaser: Emerging markets have been a tricky one, particularly in the short term, but even over the long term. … These are economies that have pretty good growth fundamentals, you have all these big secular stories of a growing consumer class, a growing middle class, low debt levels compared to the developed world. But the equities have not always matched those expectations of growth. That's something we've seen over the short term here--particularly when the Fed started talking about tapering--that really did hit a lot of the real economies in emerging markets pretty hard, particularly in India, which got hit particularly hard from this taper talk.
I think that generally people remained optimistic about emerging markets in the long run--that it still makes sense to have some kind of exposure to them, that there is still a lot of long-term potential there, and that the underperformance of the stocks have left them maybe looking a little bit more attractive than some other types of developed-market equities that are little bit more stretched in terms of valuation.
But it definitely was not a slam dunk. Austan Goolsbee talked about how, even though emerging markets are growing, they are growing from a smaller base, and if you asked anyone [from those countries] if they wanted to trade their problems with the U.S.'s problems, they'd probably be glad to take the U.S.'s problems, and that there are still going to be a lot of challenges in terms of keeping their growth at the trajectory that it is. It's not going to be a seamless transition; it's going to be a very rocky one. And he was a little bit more excited about the long-term prospects of the United States versus some of those emerging markets.
Stipp: Inflation, as you said, coming up as a short-term issue in emerging markets, but also a broader risk mentioned by some of the panelists here. What are some takeaways on that inflation risk? It doesn't seem like we've faced it for a while here in the U.S., but longer term it's something that should be on the radar.
Glaser: I think it is, but no one seemed to think that it was an issue that was going to happen anytime soon. I think almost to a person all of the panelists and keynote speakers really dismissed the idea of runaway inflation as something that's happening anytime soon.
You certainly see the Federal Reserve is pumping quite a bit of money through the quantitative easing programs, and that potentially could cause inflation. But given the amount of slack that still is in the economy, given the lack of pressure on wage growth, in particular, in the United States, it doesn't seem like something that's going to happen imminently, and that's not particularly a big worry of any of the strategists here.
Everyone seemed much more concerned about things like the debt ceiling and the shutdown; people seem much more concerned about getting employment growth and household formation back. After those things happen, maybe inflation becomes a bigger item on the worry list, but at least in the developed markets, inflation does not seem to be on a lot of people's radar screens as a key issue to be worried about right now.
Stipp: Lastly, Jeremy, a hot topic at the conference so far is growth. Will we see growth finally pick up, given that we have had such a slow recovery?
Glaser: That's really been one of the big questions hanging over people's minds for a while, and it really splits into two questions: What does that short- and medium-term growth look like, and what does the long-term growth trajectory for the United State look like?
Everyone is pretty much in agreement that the short- to medium-term doesn't look great, with all of the question marks hanging over the policy uncertainty that's happening in Washington. The housing market is doing better, but still not doing great. Goolsbee pointed out that he thinks the housing market still is far from a sustainable recovery that's going to look like it did in the bubble era. [Plus, there are] issues surrounding the fiscal entitlements that need to be reformed. Those really are going to be a big drag. In the next 12, 18, 24 months, we could still see some of this really subpar growth, and it's going to take a while for things to pick up.
But in the long term, there was a little bit more optimism that these issues really could be worked out. The fiscal issues are bad, but we actually have options in front of us in the United States to solve them. It's just a matter of figuring out what vision--is it raising revenue, is at cutting some more entitlements. But [we know] the general levers of how to make that happen, and we have enough headroom to actually make that happen.
Our demographics are somewhat of a problem, [but] the United States is aging at a much slower rate than many other [developed] countries. Our entrepreneurial spirit is still alive and well, and worker productivity remains very high. Those long-term structural factors will keep driving growth, and the United States can get back to that 3% growth rate that we've achieved for so many years in the past. It might take a while to get there. It's not going to be, again, a quick recovery, but if you are focused on the long term, you should see some growth coming.
Stipp: Five interesting takeaways, Jeremy, from what has been a macro-focused conference. Thanks for joining me.
Glaser: You're welcome, Jason.
Stipp: For Morningstar, I'm Jason Stipp. Thanks for watching.