Fidelity Investments Roundtable: Three Key Themes for 2015
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leadership series market perspectives
First Quarter 2015
Fidelity Investments Roundtable:
Three Key Themes for 2015
The presidents, chief investment officers, and other leaders within the investment divisions at key takeaways
Fidelity Investments gather regularly to discuss market conditions, significant risk factors, and
other dynamics driving the performance of the financial markets. In the Fidelity Investments • Slowing demand and rising
roundtable that took place in December 2014, our investment professionals discussed three supply could make oil prices
key factors shaping the outlook for the financial markets in 2015: oil prices, the strength of stay within a lower price
the U.S. dollar, and the potential for higher interest rates. Brian Hogan, president of the Equity range for much of 2015.
Group of Fidelity Investments, moderated the discussion. [Note: The following views represent • The U.S. consumer sector
those of one or more individuals, and should not be considered as the collective view of either is likely to be a clear
Fidelity Investments or any particular investment division.] beneficiary of lower oil
prices.
BRIAN HOGAN (Moderator): Let’s start off with what’s in the news lately. Oil prices have • The U.S. dollar may be
recently hit a cyclical low, and may go lower. Do you think these low prices are sustainable? at the beginning of a
strengthening cycle, which
TIM COHEN (Equities): Many people are expecting a strong price rebound in 2015, and that we’ll could support U.S. large-cap
see oil climb back up toward $100 a barrel. I’m not in that camp, because underlying demand growth and mega-cap stocks.
has been slowing while supply has been increasing. In the developed world, alternative sources and
• U.S. stocks are generally
energy efficiency have been flattening the need for oil. Most of the actual demand growth has come
favored; however, European
from emerging markets, particularly China, but even that has been slowing down. On the supply side
equities, which are starting
of the equation, the U.S. has added a tremendous amount of production in a short time due to the from lower valuations, may
success of shale drilling—something like a million barrels a day, more than 10% of our total output. reach a tipping point in
Saudi Arabia has decided not to cut production for now, and other OPEC nations may be cheating 2015 and show unexpectedly
a bit by overproducing on their quotas. With supply likely to remain greater than demand, I don’t strong returns if the
envision seeing the price spike back up again in the near term. consensus view is wrong.
• Despite a consensus that
BRIAN ENYEART (Global Asset Allocation): One of the things people were saying when OPEC did
short-term interest rates
not cut production was that this could be a game-changer, and that we haven’t seen anything like will rise around midyear, the
this before. But we actually have seen something similar, back in 1998. When OPEC chooses not pace of later increases and
to cut, you get a temporary glut, prices stay low, and the high-cost producers are gradually driven the impact on long-term
out of the market over the course of 12 to 18 months. That process eventually leads to supply rates is less certain.
matching demand, which stabilizes prices. If that historical pattern holds, we could very well see
low oil prices throughout 2015 while the high-cost producers decide whether they really want to
continue making capital investments in the hopes that prices will rise.
COHEN (Equities): Shale oil could change that timing a little bit because the production cycle is
much faster—the time it takes to drill a well and start pumping oil from a shale formation is much
shorter than other U.S. production. Also, the wells deplete faster, so if companies stop drilling new
wells, production could drop more quickly. However, shale production may turn out to be economical
at the current price range, and many of the U.S. producers are already hedged through next year. So
they’ll likely continue to produce for a while, regardless of the current market price.HOGAN: What would extended low energy prices mean for seeing some job growth. Historically, betting against the U.S.
investment portfolios? consumer’s spending habits has never been easy.
PAM HOLDING (Pyramis Global Advisors): When it comes HOGAN: The consensus certainly seems to be that the U.S.
to the energy sector, many of our portfolios have lately been dollar will stay strong and likely get stronger in 2015. Anyone
relatively defensively positioned, either underweight the sector want to differ from that consensus?
or, in funds that are sector neutral, very carefully positioned.
In addition, we’re thinking defensively on industrials as well, DEREK YOUNG (Global Asset Allocation): If you look at
because a lot of industrial manufacturers’ revenues are tied to central bank policy, with the U.S. tightening while other major
the capital expenditures of the energy industry. Many of those economies are doing the reverse, it suggests we’ll have a
manufacturers built up large inventories in anticipation of a stronger dollar for an extended period. We’re only two or three
spending boom driven by shale production. So even though years into this strengthening cycle. Although past performance
lower energy prices might be good for industrial production may not be indicative of the future, the last one lasted much
outside the energy industry by lowering input costs, we may see longer, from 1994 to 2001.
some real dislocation within the sector if energy companies cut
capital spending. DESANTIS (Equities): At that time, the U.S. benefited from
a wave of globalization. Companies were able to drive costs
JOSEPH DESANTIS (Equities): There are always second- down while revenues went up due to increased U.S. demand,
derivative impacts around such an energy price move, which created a huge tailwind for their earnings and the equity
whether it’s production of pumps, or compressors, or even the market. What makes the current dollar’s position seem even
demand for steel itself. Lower energy prices can increase the more unique is that last time this happened, the Germans (euro)
differentiation of performance within certain sectors, which were also trying to maintain the strength of their currency. Now,
may improve the environment for active stock-pickers. For virtually no currency union or country is really trying to do that.
example, industrial producers of energy-related equipment Hence, I think the surprise might not be that consensus is
may have been facing challenges, as Pam said, but then the wrong, but that the dollar strengthening cycle goes further, or
transportation industry, which is in the same sector, has been lasts longer, than most people expect.
greatly benefiting from lower fuel prices. Another question
is, if the job growth that has been coming from energy and TOM HENSE (Equities and High Yield): If so, that could be a
industrials slows, will it shift someplace else? I think we’ll likely big issue for emerging-market (EM) corporate debt in particular,
see a shift to job creation on the consumer side. because a lot of big EM companies, especially investment-grade
or near-investment-grade, have borrowed in dollars but generate
BRUCE HERRING (Global Asset Allocation): I agree—and I’d their revenues in local currency. A strengthening dollar makes it
add that lower energy prices directly translate to a significant hard to keep up. Sovereign debt may be challenged by a strong
transfer of wealth from producers to consumers, which is a dollar also, but to a lesser extent than corporate debt, because
huge boon for the U.S. consumer. In particular, lower energy sovereigns can usually reduce spending, draw upon reserves, or
prices tend to be very helpful for the middle class, who then sell assets to keep up.
tend to channel that money back into the economy through
increased consumption. So the U.S. consumer discretionary COHEN (Equities): It’s always a little worrying to be part of the
sector is likely to benefit from lower energy prices. consensus view, but I have to admit I see a lot of reasons for
the dollar to continue appreciating and very few for it to go the
MELISSA REILLY (Equities): You can come up with a scenario other way. That makes me wonder about the implications from a
in which the U.S. consumer sector accelerates greatly, which portfolio standpoint. The last time we had a strong dollar for an
usually helps out Europe as well. European companies that extended period, large-cap stocks tended to outperform small-
export to us typically end up following closely behind as caps. And not only did large-caps beat small, but mega-caps
the consumer sector improves. We haven’t seen that rapid beat large-caps. This outperformance for large-cap stocks was
acceleration just yet, and there’s even an argument that the driven mainly by an increase in the price-to-earnings (P/E) ratio
cycle may have changed because in the U.S., spending and for mega-caps, perhaps because investors looking for exposure
saving patterns for the generations after the baby boomers to a strong U.S. dollar were attracted to the strong liquidity and
might be very different from what we have seen in the past. well-known global brands of many mega-cap companies.
But I think it’s more likely that we’ve been observing a period
of U.S. consumers paying off debt and saving as a response HOLDING (Pyramis Global Advisors): One of my biggest
to the recession, rather than a demographic shift in habits. concerns for the year—and this conversation is heightening
People may be ready to return to spending, now that we’re it—is what if consensus is wrong for 2015, as it was about rate
2increases in 2014? I know consensus is always in flux, but the curves for Treasuries and high-quality municipal bonds are still
market seems to agree for now that the U.S. is still the best remarkably steep. Often, when the Fed has started on the path
place to invest. I don’t necessarily disagree, with the strong of tightening, it has continued down that path for a while, which
dollar and the likely higher rate environment. But perhaps has prompted a dramatic flattening of the curve, bringing short-
those factors are already accounted for by the market. Perhaps term and long-term rates closer together. For the most part, our
the focus on the favorable U.S. backdrop is taking attention view is that while short-term rates will likely go higher around
away from other regions that might have an even more positive midyear, we are not convinced that the first move will be a
inflection over the course of the year. For example, P/E ratios harbinger of hundreds of basis-point increases to follow, or that
have been more attractive in Europe for some time, and it the yield curve will flatten out as quickly as it has in the past. So
seemed like we would see a positive tipping point last year, the challenge we face is in positioning well for the volatility we
at least until the geopolitical unrest in Ukraine. We may see expect as the market reacts or overreacts to policy signals.
European equities achieve unexpectedly strong returns this
year, thus providing even better opportunities for investors. HOGAN: Do you think we’ve entered a new rate environment,
where investors can expect to see many years of rising rates?
COHEN (Equities): A year ago, valuations were pretty level across Or should we expect a more gradual type of tightening?
the board—the U.S., Europe, and Japan all looked similar, at
prices around 15 to 16 times earnings, and EM markets looked THOMPSON (Bonds): Overall, we don’t yet see the kinds of
cheaper, at 13 times earnings or so. The spread has definitely conditions that would set us up for a multiyear, secular cycle
widened, with the U.S. increasing a little, EMs decreasing a little, of rising rates. Part of our skepticism may be because we are
and Europe and Japan relatively flat. That’s overall, though. When at the lower end of the Fed’s target range for inflation. Combine
you look at valuations on a company-by-company basis, and find that with the U.S. market’s strength relative to the global
a good company with strong growth prospects in an emerging economy, and it’s hard to justify raising rates over a
economy like India or China, it’s not 15 or 16 times earnings. sustained period.
It’s more like 18, 20, 25 times earnings. Valuations are lower in
domestic-focused European companies, but I think that reflects a HERRING (Global Asset Allocation): I worry more about the
sentiment that the economy there will remain depressed. So the global rate structure, and the pull of U.S. rates downward
question becomes whether European industries will remain below toward global rates rather than the other way around. Look at
their long-term trends, and for how long. rates across Europe, and it’s clear that even as low as we are, the
U.S. is still the most attractive developed market for bond yields.
HOGAN: In 2014, the Federal Reserve (Fed) ended the U.S.
quantitative easing program. The Fed has lately signalled a HUYCK (Money Markets): I think part of the issue is the
willingness to raise rates in 2015, and the market seems to similarity in monetary policy across the globe, as major central
expect this rate “liftoff” in the middle of the year. What do you banks are aggressively easing and putting downward pressure
think the implications of higher interest rates will be for investors? on rates. With structural and regulatory issues in Europe, China,
and Japan that might take decades to resolve, I think we are
TIM HUYCK (Money Markets): I think the potential for higher going to see a very challenging environment for sustaining high
rates, and for some volatility of rate expectations, will be good interest rates over the next five years or so.
for money market investors. If you look at the Fed funds futures
market, you can see that the market generally expects the first LISA EMSBO-MATTINGLY (Asset Allocation Research): I agree
rate hike to be in the July to August 2015 time frame. However, that changes are likely to be gradual, and I’d add that the size of
there’s much less consensus about the pace of tightening after the Fed’s balance sheet might make it difficult to follow the usual
that, with the futures market suggesting a much slower increase playbook, so raising rates might not be an easy task. There is a
through 2017 than the actual Fed Open Market Committee lot of market complacency around the idea of liftoff, a sense that
predictions. Right now, the market seems to believe the Fed the Fed is going to raise rates a little bit and it won’t be a big deal.
will tighten slowly because headline inflation is low, but the But don’t forget that from a global perspective, changes can have
Fed has been clear that it plans to look at the economy overall, an effect way out on the peripheries, and sometimes things can
which includes ignoring the effect of falling energy prices on the break unexpectedly when U.S. rates go up. Russia might be a
inflation numbers. Given these circumstances, I think we should good example—it’s very difficult to predict the full ramifications of
expect to see some volatility around expectations for shorter-term even a small rate increase, and that’s something we’ll be watching
rates while they gradually rise. closely in the coming year.
CHRISTINE THOMPSON (Bonds): For bond investors, we’re YOUNG (Global Asset Allocation): I don’t think you can
looking at the whole yield curve, at both short-term and long- underestimate the importance of U.S. Treasury debt as the
term interest rates. Even after some flattening in 2014, the yield “flight to quality” investment choice. So whenever you have a
3global crisis or concerns, you start to see U.S. yields supported economy’s continuing mid-cycle expansion, while Treasuries
by foreign investment. rise due to very low bond yields in Europe and elsewhere.
HOGAN: How do equities fit into this dynamic? HOGAN: Thank you all for sharing your thoughts. To summarize:
It seems as though as a group, we expect oil prices to stay
ANGELO MANIOUDAKIS (Global Asset Allocation): I think relatively low, the U.S. dollar to remain strong, and short-term
the recent relationship between Treasuries and equities has interest rates to rise gradually in the U.S., but with some market
been very interesting, and different from what we have come to volatility as rate expectations adjust. Although none of these
expect. A couple of years ago, it was more of an either/or choice themes suggests obvious market upheavals, careful positioning
for investors, “risk on” versus “risk off”—buy equities versus in energy, industrials, emerging markets, and bonds may be
buy Treasuries. With so many foreign buyers of Treasuries, prudent. Equities in the U.S. and in developed Europe, and the
that market dynamic seems to have shifted a little. So we may U.S. consumer sector in particular, might benefit most from
see a situation where U.S. equities continue to rise due to the these themes in 2015.
Fidelity Thought Leadership Vice President and Senior Investment Writer Vic Tulli provided editorial direction for this article.
The following are regular participants in Fidelity Investments’ roundtable sessions:
Bob Brown Jeffrey Lagarce
President, Bonds President, Pyramis Global Advisors
Tim Cohen Angelo Manioudakis
Chief Investment Officer, Equities Chief Investment Officer, Global Asset Allocation
Joseph DeSantis Jeffrey Mitchell
Chief Investment Officer, Equities Head of Research, Global Asset Allocation
Lisa Emsbo-Mattingly Charlie Morrison
Director, Asset Allocation Research President, Asset Management
Brian Enyeart Stephanie Pierce
Chief Investment Officer, Global Asset Allocation Executive Vice President, Investment Product Development
Tom Hense Nancy Prior
Group Chief Investment Officer, High Yield and Equities President, Fixed Income
Bruce Herring Melissa Reilly
Group Chief Investment Officer, Global Asset Allocation Chief Investment Officer, Equities
Brian Hogan Chris Sheldon
President, Equity Group Chief Investment Officer, Private Wealth Management
Pam Holding Christine Thompson
Chief Investment Officer, Pyramis Global Advisors Chief Investment Officer, Bonds
Tim Huyck Derek Young
Chief Investment Officer, Money Markets President, Global Asset Allocation
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