But for growth investors, excitement around innovation in biotechnology and mobile technology also provided some powerful investment themes, and the Russell 1000 Growth benchmark actually slightly outpaced the Value version in what most would consider a banner year for the value style.
'Modest' growth spurt
What can we expect in 2014? We foresee a modest acceleration in profits growth next year. From a longer-term point of view, we think that profits are roughly in line with trend.
That comment is actually a strong statement to make, with net profit margins for the S&P500 companies hovering around 9%, well above historic average. But we think many of the drivers of these high margins are long lasting.
For example, multinational US corporations are major beneficiaries of globalisation and technological change. We think that will persist over the next 5-10 years.
Lower interest rates and lower taxes have also helped boost profitability. Some of those benefits may gradually fade over the course of the year. However, we think that higher interest rates may actually improve profits initially, with low returns on cash and low interest margins in the banking sector depressing returns during the era of so-called zero interest rate policy. Meanwhile we would also expect some help for company revenues from acceleration in the pace of economic recovery in the US this year.
Low growth not a surprise
A prediction for US earnings growth of around 8% is our best guess for 2014, helped by continued buybacks of equity at a rapid pace, and probably again sweetened with faster growth in dividends as cash flows remain so strong.
Rationally, US equity investors should expect much less of a rise in price/earnings this year. The starting multiple on our normalised estimates is now 16x compared with 13x a year ago and 9x at the depths of despair in early 2009. So we have to be realistic, the market has come a long way.
Stocks still look very inexpensive in comparison to bonds but we see little reason to doubt the consensus view that bond yields will be rising again in 2014, gradually making this comparison less attractive. There is, of course, a chance that the stock market overshoots fair value and produces another strong gain this year.
Investor sentiment does appear to be improving considerably, raising the chances of some old-fashioned irrational exuberance and a dangerously overpriced market as a result. It also seems sensible to prepare for higher volatility in stock prices, after a remarkably calm experience in 2013 that isn’t at all typical of the longer-term history of equity investing. Expectations are higher now, and the transition away from the most accommodative monetary policy ever seen probably carries some risks as well.
Fundamentals key
Within the market, the opportunities for stock picking would seem to be in the same places as last year, at least for now. After such strong price movements, our value-minded investors have become less excited about the outlook, but still see plenty of attractions in the financial group and in more cyclical names.
Defensive groups still look expensive, although we are starting to find a few opportunities in utilities and Reits.
Our growth team saw more opportunities as last year progressed, within consumer and industrial groups as well as the traditional sectors of healthcare and technology. Last year’s gains have however resulted in some richly-priced companies in this group, and careful attention to the fundamentals will be required in 2014.
