5 Market Trends to Watch in the New Year

The equity market is poised to deliver a record setting year. For advisors, that likely dictates a shift in strategy as you move into 2018. Whether you are planning shorter-term portfolios for clients who are near or in retirement, or longer-term portfolios for clients who are still accumulating assets, now is the time to focus not only on what’s happening in the markets overall, and identify way to help support better, more predictable outcomes for your clients.

Here are 5 market trends to watch—and how each one may impact your approach in 2018:

1. International equities may be the sweet spot for stronger returns.

International equities are certainly becoming more attractive to investors as the outlook for a potentially over-valued US equities market weakens. That said, with an expected growth rate of near 2%, the US has the potential to continue to perform well, but it is likely to lag other regions with higher forecasted growth. Considering the lower valuations, higher dividend yields, and more accommodative monetary policies for non-US equities, now may be the time to look beyond the US equity markets. However, caution is key. Foreign currencies continue to be difficult to predict, and the expectation of a strong dollar trend in 2017 didn’t deliver.

The takeaway: If you opt to allocate assets in non-US markets, consider the possible currency impact for your portfolios, and take steps to hedge some of this currency risk.

2. Credit spreads on below investment grade bonds are expected to widen.

The spread of US corporate high yield bonds over 10-year US Treasuries is hovering near 3%. While that’s not a record low, the spread is certainly below the long-term average. Remember that the spread was also near 3% before the TMT crash of the early 2000s, before the Credit Crisis of 2008, and in late 2014 just prior to the sharp drop in oil prices in 2015. As we saw in each of these periods, the spread can continue to remain low for several years, but when there is a shock to the economy, the potential for a sharp widening increases.

The takeaway: If you are using below investment grade bonds to address income needs, consider owning lower volatility high yield bonds to help mitigate risk.

3. Tax reform and other legislative priorities may fuel small cap equity performance.

There is a strong possibility that tax reform will occur in late 2017 or early 2018. Because small caps are often taxed on a pass-through basis, they typically end up paying higher tax rates than large cap companies. Tax reform (at least as it appears at the moment) may level the playing field and propel small cap stocks higher. While most equities would benefit, those that are well managed may be in the best position to benefit.

The takeaway: If tax reform benefits small-cap taxation, apply a disciplined approach to identify small cap companies that can potentially improve returns in small cap allocations.

Related: 4 Strategies for Navigating Market Expansion

4. Mergers and acquisitions may provide a tool to help dampen portfolio volatility.

Despite an uncertain political environment, the M&A market has remained resilient. With continued low interest rates, the possibility of a deal on foreign tax repatriation, and large cash reserves on corporate balance sheets, the M&A market appears particularly strong. Recently, we’ve seen a number of deals like the Amazon/Whole Foods merger that have the potential to dramatically alter the competitive balance within an industry. We believe These types of deals are likely to increase in frequency as new technologies become available to support further industry disruption.

The takeaway: If you’re looking for ways to help dampen portfolio volatility, industry disruptors in the merger arbitrage market may offer new opportunities.

5. A growing menu of passive and active ETF products will offer greater investor choice.

According to Bloomberg, year-to-date in-flows in US listed ETFs are over $339B, which represents almost 11% of assets. And while passive ETFs are still dominating active ETFs, active ETFs are now growing at a faster rate with in-flows over 38% of assets (albeit from a much smaller base). These rates are likely to accelerate in today’s regulatory landscape which continues to provide a supportive backdrop for ETF asset growth. The pending rollout of the European Union’s updated Markets in Financial Instruments Directive II (MiFID II) and the US Department of Labor’s (DOL) Fiduciary Rule are expected to further drive investments towards transparent and lower-fee platforms provided by the ETF structure. As demand for passive and active ETFs escalates, ETF providers are continuing to innovate these products, resulting in much greater variety of available options.

The takeaway: As the ETF market continues to grow, look for new product offerings that can help address specific needs within your portfolio.

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IndexIQ® is the indirect wholly owned subsidiary of New York Life Investment Management Holdings LLC. ALPS Distributors, Inc. (ALPS) is the principal underwriter of the ETFs. NYLIFE Distributors LLC is a distributor of the ETFs and the principal underwriter of the IQ Hedge Multi-Strategy Plus Fund. NYLIFE Distributors LLC is located at 30 Hudson Street, Jersey City, NJ 07302. ALPS Distributors, Inc. is not affiliated with NYLIFE Distributors LLC. NYLIFE Distributors LLC is a Member FINRA/SIPC. Sal Bruno is a registered representative of NYLIFE Distributors LLC.