Looking Beyond Equities and Bonds
Source: FA-IQ, Jun. 5, 2017
BRUCE LOVE, MANAGING EDITOR, FINANCIAL ADVISOR IQ: Hi, this is Bruce Love with Financial Advisor IQ. And I'm here with Steve Cucchiaro, the president and CIO of 3EDGE. Steve, markets are interesting at the moment. Equities are quite vibrant. You could say treasuries and fixed income not so much, at least domestically. What sorts of things should you be looking for in terms of if you were trying to find some undervalued asset classes?
STEVE CUCCHIARO, PRESIDENT AND CIO, 3EDGE: Even though the equity markets have been quite vibrant, we think the most overvalued areas of the market are the fixed-income markets. They've been the beneficiaries of this tremendous monetary stimulus. And a lot of those markets have been on the tail end of a 35-year bull market in bonds.
So we are still finding pockets of the equity markets where we find more undervalued asset classes. And particularly starting to rotate out of the U.S. markets, which have outperformed the rest of the world since the financial crisis, and into markets in certain emerging areas and Europe, for instance.
BRUCE LOVE: So what does that mean for advisors? I mean, in terms of how should they be talking to their retail clients, and how should they be strategizing for them?
STEVE CUCCHIARO: I think there's an education that needs to happen where the U.S. markets have so outperformed the rest of the world for so long that there are clients who don't want to hear about anything except U.S. equities. And yet that's precisely the time to start educating and conditioning clients that where other markets have underperformed, perhaps it's starting to be time to start to look more seriously at non-U.S. markets.
BRUCE LOVE: Steve, you were telling me you have some thoughts on monetary stimulus and the role of yield. What's your thoughts?
STEVE CUCCHIARO: Since the financial crisis of 2008, central banks, starting with our Fed and then translating to other major central banks, have introduced extraordinary monetary stimulus, in fact unprecedented in history. And we believe that this was a noble attempt to try to stimulate economies and grow. Rather, a lot of the stimulus has gone into raising asset prices far in advance of the underlying economic growth.
So we do believe that this monetary stimulus has robbed investment returns from the future, brought them into the present, and it's going to be a lower return world going forward. But the good news-- and this is important for advisors to talk with their clients-- is that markets don't move in straight lines. Even if it's true that we're in a lower return world, it doesn't mean that markets will have lower returns year after year.
But markets go through cycles. So what's really key is to identify those markets that are in the undervalued phase of their cycle, but poise through certain catalysts to begin to appreciate that and make that journey from undervalued back to fair valued, or maybe even to overvalued.
BRUCE LOVE: And so if you're an advisor, how do you do that analysis? And then how do you explain it to clients who probably think that equities are great, and let's pile in because the economy's going to be wonderful for the next few years?
STEVE CUCCHIARO: Well, it is true that the economy could continue to move ahead. But it's not true that all markets will appreciate at the same rate. And so perhaps it's important to describe to clients that, in looking at markets that might have benefited from conditions that were relevant in the past, it's important to find markets that might benefit from changing catalysts in the future.
BRUCE LOVE: Steve, let's talk Fed policy, probably a rate rise in the future, possibly only one more, certainly a new chair at the Fed. How do you start to think about this for your client in terms of what you tell your clients? And what should you as an advisor be thinking is going to happen?
STEVE CUCCHIARO: This is important because where the Fed is trying to normalize policy and raise rates while they can, other central banks are not yet moving that way. So with thus divergent monetary policy, this also is an argument why advisors should tell their clients to perhaps think about moving some of their money out of the U.S. into other places.
It's going to be difficult because the yield curve, which is the difference between long rates and short rates, is flattening with these short-term rate hikes. And if it gets too flat or it starts to invert, that could be a precursor to the next recession, as liquidity would tighten. So that's a nice canary in the coal mine to be looking for on behalf of your clients to say maybe it's time to start pulling back.
BRUCE LOVE: Steve, thank you very much.
STEVE CUCCHIARO: Thank you. It's a pleasure to be here.