Bolstered by a combination of improving global growth and strengthening corporate earnings, global equity markets continued to grind higher in the first half of 2017, with the MSCI ACWI Investable Market Index (IMI) gaining 11.32% in U.S. dollar terms for the six-month period.*
Global Economic Expansion Broadens
Aggregate global corporate revenue results from the most recent earnings season indicate that the ongoing global economic expansion is broadening. Revenue growth accelerated in many areas that had already been strong, including Europe, which benefited from renewed strength in the industrials sector.
Emerging Markets Lead
The best performers in the first half of 2017 were non-U.S. equities, led by the 18.11% advance in emerging market equities, as measured by the MSCI EM IMI.*
Emerging markets were led during the period by larger Asian nations, including China, India, Korea, and Taiwan, which saw a strong rally in technology shares.
Mexico also outperformed on the back of the resurgent peso, which regained all of the ground it had lost versus the U.S. dollar in the wake of Trump’s election victory as his administration toned down its rhetoric.
Among other primary emerging market countries, Brazil and Russia significantly underperformed. Russia was hampered by the weaker oil-price environment. Brazilian equities were shaken in May by new corruption allegations against President Temer, which threatened to derail his presidency and the country’s fragile economic recovery.
Weaker Dollar Provides Tailwinds
The U.S. dollar reversed all of the gains it made after the U.S. presidential election, providing a significant tailwind to non-U.S. equity returns. The euro, sterling, and yen all appreciated versus the U.S. dollar during the six-month period. Improving growth and inflation outlooks contributed to non-U.S. currency strength to varying degrees.
Interest-Rate Policy Ignites Rallies
Coordinated statements from the Bank of England and European Central Bank set the stage for a withdrawal of stimulus measures, and the prospect for interest-rate-policy normalization in the these areas ignited a rally in both the pound and euro at the end of June.
Healthcare, IT, and Industrials Outperform; Energy Sinks
Healthcare, information technology, and industrials were the top-performing sectors during the first half of 2017, as measured by the MSCI ACWI IMI.* In contrast, the energy sector lagged significantly amid a pullback in oil prices, driven by concerns of oversupply conditions and lackluster demand.
Style Favorites Rotate
From a global style perspective, William Blair’s proprietary quantitative model demonstrated a rotation from low-valuation market leadership earlier in the year to a more balanced style backdrop in the second quarter. Quality, earnings trend, and momentum factors (as measured by top quintile minus bottom quintile model returns) were favored.
Looking forward to the second half of 2017, economic expansion favors more active stock selection across all sectors. We continue to see upside risk to nominal growth and have generally positioned toward companies with rising earnings prospects that we believe are not fairly reflected in valuations.
From a regional perspective, Europe appears more attractive than the United States, where economic expansion is more advanced. Robust revenue performance for European machinery companies bodes well for investment and industrial production growth.
Beyond improved corporate performance, the outlook for Europe has been supported by reduced political risk following the French presidential and parliamentary elections, which have raised expectations for pro-market labor reforms and ignited hopes of a more unified European Union.
In the emerging markets, valuations remain relatively favorable based on forward price-to-earnings multiples despite the first-half market rally, reflecting positive earnings revisions. After stagnating the last few years, corporate earnings in emerging markets are forecast to increase at a double-digit pace this year. From an external balance perspective, emerging market currencies have already depreciated and current account deficits have moderated.
Key risk factors for emerging markets are a strengthening U.S. dollar and acceleration in U.S. interest-rate hikes, in addition to protectionist measures that impede global trade. Concerns about China’s capital outflows and currency management have moderated following the government’s efforts to combat capital flight this year.
The People’s Bank of China has stated that it will continue to keep liquidity in the financial system stable, relying more on market-based policy tools to adjust liquidity and market interest rates.
*Net of withholding taxes on dividends.