My boss’s boss’s boss visited Bloomberg TV on Monday. Dean Connor, our president and chief executive officer, talked with host Erik Schatzker about Sun Life Financial and its view of capital markets. At 3:26 of the interview, Schatzker set up a clip on “the Great Rotation,” which Connor said he believes is real.
I hadn’t written about that before, so I did a bit of digging. The Great Rotation is noteworthy, not because you ought to make short-term investment decisions based on it, but because it might help answer the question on just about everyone’s mind: Can stock valuations continue to rise, given the relative weakness of the global economy?
Credit Bank of America Merrill Lynch with coining the phrase. In an October 2012 report entitled The Bond Era Ends, Michael Hartnett, chief investment strategist and Kate Moore, global equity strategist argue that the strong returns enjoyed by bond investors in recent years is coming to an end. Investors will exit bonds and move their money into stocks. Hartnett and Moore wrote: “if the U.S. successfully navigates the fiscal cliff, Europe continues to stabilize and Chinese growth reaccelerates, in our view 2013 could mark the start of the Great Rotation.”
There are three important things going on here:
- There’s been such a flight to safety (i.e., investors buying the government debt of developed world nations) since the financial crisis that these governments are able to borrow at extraordinarily cheap rates. Bond prices are high and yields are low, so investors aren’t getting much for their money.
- The global economy is recovering. Concerns about the U.S., Europe and China aren’t behind us, but there are signs of improvement. In the U.S., for example, the Federal Reserve’s quantitative easing program will have to come to an end eventually. When it does, the government bond market there will take a hit.
- As the U.S. and other key economies strengthen, their public companies are looking like better bets. (Canada may be an exception, for reasons I’ve written about previously.) Investors are looking more and more favourably at stocks, especially blue chips that pay handsome dividends. And increasingly, there is optimism that business leaders will start to spend some of those stockpiled dollars we’ve been reading so much about.
Don’t count on this happening quickly. This is a matter of fund flows, which is to say that it’s up to millions of investors to decide if and when it makes sense for them to move assets out of government bonds and into stocks.
In fact, not everyone agrees it’s happening at all. Earlier this month, Lombard Odier published a report called Dispelling the Myth of a Great Rotation, in which the firm advised investors that it is “wary of a simplistic and massive rotation thesis.”
We’ll see who has it right.
What matters more than all of this, though, is a balanced portfolio that’s in line with your personal risk profile and retirement plan. That may not be as much fun to talk about as a Great Rotation, but it works.
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