Why investors might be focusing on the wrong signals

Why investors might be focusing on the wrong signals

Why investors might be focusing on the wrong signals When Karl Cheong speaks to investors about the current market he often detects the same overriding emotion: nervousness. As a direct result, there’s a lot of cash sitting on the sidelines, with many investors reluctant to participate in the market.

“Looking at flows, we can see that more retail investors continue to put money into bond funds rather than stock funds, even though we've had phenomenal equity market returns since the financial crisis,” Cheong, Head of ETFs at First Trust Portfolios Canada, says. “A ton of people haven’t participated, and now that we’ve rallied so much it is almost like people are too nervous to jump back in.”

Although that nervousness is causing some investors to miss out, for Cheong there is a positive – it tells him that the market is not in, or approaching, bubble territory.

“Yes, valuations are a bit elevated, but if you take a look at the underlying current fundamentals there are absolutely no signs of recession on our indicators at this point,” Cheong says. “Valuations tell you one thing - that there might be more muted returns - but that doesn’t mean that going forward that the market can’t go up. There are going to be pullbacks and periods of volatility, but those are buying opportunities, especially with the economy and earnings growing so well.”

Cheong believes investors should be more focused on the synchronized nature of global growth rather than the length of the current cycle. The US economy continues to perform well and Europe is growing at an even faster rate.  “Europe still has a very supportive economic environment and businesses have been performing extremely well,” Cheong says. “What drives the stock market first and foremost is earnings over the long-term, not the government or policy.”

U.S financials is a sector that looks particularly appealing to Cheong in the current environment. Gradual deregulation has been positive and the conditions south of the border are putting banks in a better position to lend capital and reduce their reserve requirements.

“Also, as the Federal Reserve starts unloading its inventory of bonds, yields may back up and the reduced threat margin for these businesses should lead to outperformance,” Cheong says. “It is, therefore, the cheapest sector in the S&P 500.”

Despite its recent boom, technology remains a sector that also looks good to Cheong. “We’ve seen a significant rally in tech, but where else in the market are you going to find that level of growth,” he says. “You need greater than 2% growth and these types of companies are delivering it. When investing, we look at earnings, valuations and growth potential, and technology really lights up in those categories.”

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