U.S. markets 'no longer the only game in town' for investors, says Fidelity's Jurrien Timmer

Key Concepts:

• Momentum investing
• Price to free cash flow ratio
• MSCI All Country World Index ex US
• Global diversification
• Fiscal impulse
• Treasury yields
• Earnings yield
• Deficit funding

1. Market Momentum and Valuation:

• The S&P 500 is making new all-time highs, demonstrating a rapid V-shaped recovery from a previous 20% decline. This recovery is one of the fastest on record, rivaled only by the 1998 reversal.
• Rising markets tend to exhibit momentum, where upward trends perpetuate further gains.
• However, the price to free cash flow ratio for the S&P 500 is high at 37 times, placing it in the top decile of all-time valuations. This raises concerns about the price investors are paying for exposure to the index.
• The MSCI All Country World Index ex US is also making new highs, both in dollar and local currency terms, indicating global participation in the market rally.
• Unlike the US market, the MSCI All Country World Index ex US does not have the same valuation concerns, making it an attractive option for investors seeking growth at a reasonable price.

2. Global Investment Opportunities:

• For the past decade, the US market, particularly large-cap tech stocks (the "Mag Seven"), has been the dominant driver of returns.
• The investment landscape is becoming more level, creating opportunities to diversify assets globally.
• Geopolitical factors and trade dynamics contribute to a more balanced playing field, allowing investors to tap into growth and value opportunities outside the US.

3. The Fed, Bond Market, and Fiscal Policy:

• The US bond market is influenced by the Federal Reserve's policies and the government's fiscal decisions.
• The tax and budget bill acts as a fiscal impulse, but it also increases the national deficit by $5 trillion.
• Unlike in 2023, when the Treasury could easily switch from long-dated to short-dated bonds and tap into reverse repo at the Fed, there are now fewer options for managing the deficit without affecting reserves.
• The ten-year Treasury yield is at 4.43%, nearing 4.50%.
• Treasury yields above 4.5% can become competitive with equities, which have an earnings yield of around 4.5%.
• Historically, when yields are high and competitive, the stock market tends to pay attention.
• If yields rise further, potentially towards 5%, due to the fiscal burden, it could negatively impact the stock market.

4. Treasury Yields and Market Impact:

• "Nothing good ever happens above four and a half" - This is a significant statement regarding the potential negative impact of rising Treasury yields on the stock market.
• The Treasury bond market, traditionally considered a risk-free asset, becomes a more attractive alternative to equities when yields rise.
• Higher yields can lead to a reallocation of capital from stocks to bonds, potentially causing a market correction.

5. Conclusion:

The market is experiencing strong momentum, but high valuations in the US warrant caution. Global markets offer attractive opportunities for diversification and value. The increasing US deficit and rising Treasury yields pose a risk to the stock market, as higher yields can make bonds a more competitive investment. Investors should monitor yield movements and consider their impact on asset allocation strategies.