Strategist Ruchir Sharma Shares His Thoughts on the Market
Morgan Stanley’s Ruchir Sharma is known as one of the brightest minds in the investment industry, with both a keen eye and a good understanding of how markets work.
Chief global strategist Ruchir Sharma of Morgan Stanley spends a lot of time studying emerging markets and the market in general, and from reading and listening to what he has to say about it, his expertise and knowledge do some through very well. Sharma is particularly well known for his big-picture thinking, and the big picture always matters a lot.
Sharma also oversees emerging markets for Morgan Stanley, a sector that both promises both bigger returns and bigger losses, and where risk management and insight is at a real premium. This takes additional skill to pull off right, as well as additional effort, and you don’t put someone in charge of these things without their having a solid understanding of what is going on.
We can learn from people like this, and while we may not always agree with their insights and in some cases may deem them to be off-base, if all we manage is to think about the issues more deeply, that’s a worthy and necessary goal.
Investors who listened to Sharma 10 years ago and stayed away from countries like China, India, Russia, and Brazil, got some pretty good advice as it turned out. He instead told us to focus on U.S. stocks, particularly in the technology sector, and when an emerging markets guy tells you this, it bears listening to.
Over this time, the S&P 500 has averaged a 13% annual return, far better than emerging stocks have done. Emerging markets do have a time and place, but we do need to be careful in picking the time and place, and this was not the time.
Looking to Emerging Markets to Pick Up the Slack
Sharma sees this reversing now though, where traditional markets have become tired from all this running uphill slowing us down going forward, and expects the emerging markets to do the outpacing this time. Just because the major U.S. stock indexes may soldier on, if their growth is limited, we may be better off keeping our money elsewhere, where more promise may lie.
We do need to be a lot more careful in emerging markets though, or rather, markets that have emerged more recently, because they not only lack the stability that more established markets such as the U.S. provide, they also don’t tend to perform very well overall, and therefore we really need to pick our spots.
Sharma points out that these stocks have lost an average of 17% per year since 1988, which really hits home how much more risk that we’re taking on with these plays. This does not mean that this horrible performance will continue over the next few years, but it does mean that we are really playing with fire here.
He does at least expect that the performance gap between the United States and other countries will narrow over the next 10 years, and is concerned that the fact that U.S. stocks represent 55% of global market capitalization, with only 25% of global GDP. He compares this to Japan’s 45% of the global market cap with only 11% of world GDP at one time.
This didn’t end up very well for Japan to put it mildly, but these two situations are quite different. The U.S. has gotten there by way of what we could call economic colonialism, and not so much by people bidding up stock to the sky and then seeing that corrected. It’s not that we haven’t seen the same thing with U.S. stocks during the tech bubble of the late 1990’s, but this bull market is more sustained and entrenched in reality.
Sharma does see the growth in U.S. stocks slowing, as many do, and this view does seem reasonable based upon the projections we have, but we need much more than this to want to move to other markets.
Bigger Markets May Have Bigger Baggage
He sees the 3 D’s, decentralization, debt, and demographics, as weighing down the U.S. stock market significantly over the next while at least. The debt and demographic factors are not going anywhere, but while we’re in a period of relative decentralization, that can change, and a trade deal with China will at least help this along.
Sharma thinks that technology stocks in particular will be subject to the effects of this slowdown, and since they have been blown up more, there’s more air for them to lose if the pressure of the air increases. We do need to keep in mind though that it is their greater potential for growth that has inflated their balloon so much, and continuing to have more air blown into them, and more so than with other sectors, may matter as well. There doesn’t seem to be all that good of a reason to be particularly bearish on them beyond their alpha effects.
Higher alpha stocks do need to be watched more closely though, as they both go up more and go down more than the market does, but the market has to be going down before this becomes a worry.
As for switching our investments to other markets, it is critical that we properly account for risk when we compare investment strategies, and especially realize that even in the best of circumstances, particular investors may not have a big enough risk appetite to take this on even if the risks are fairly reasonable. They will still be higher, and perhaps too high.
Investors get away with random entries into stocks with no clear plan of managing risk because they at least get in on the right side of the long-term trend, which is upward. When you’re investing in something that tends to do down more than it goes up, it is vital that you do not overstay your welcome in these stocks.
When our view of a stock or market ends up either being mistaken or no longer valid, we need to be able to act, and the great majority of investors prefer not to have to act at all or even the need to think about this very much. We don’t buy these things ourselves though, we buy into funds, and funds are more exposed to these risks due to their need to hold things longer, so we need to be very careful here and at least be willing to time our fund holdings based upon their performance.
Sharma remains cautious with China, where he feels that the decentralization of their economy will weigh too heavily on them, among other things. He’s also careful with South Korea and Taiwan, due to their overdependence on what he feels will be a declining tech sector.
He does like Poland, Mexico, Indonesia, Peru, Brazil, and Egypt right now, based upon cheap currencies and the sounder macroeconomic environment that he sees with these countries.
There is little doubt that Sharma has thought about all of this a great deal, and it does pay to keep our eye open for changing market circumstances and inflection points where we may want to change our approach. As long as we understand what we’re getting into when we make these changes and are also aware of what to look for to tell us it is time to change our plan again, we are at least on the right track.
Chief Editor, MarketReview.com
Ken has a way of making even the most complex of ideas in finance simple enough to understand by all and looks to take every topic to a higher level.
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