Gloomy Eurozone Picture Dims Prudential’s Global Outlook

The looming fiscal cliff has investors scurrying for safe harbor, Prudential’s investment strategists said at their Midyear Global Markets and Economic Outlook.

“In the first quarter, the U.S. economy was starting to show some traction, but we can’t make that case anymore,” said Edward Keon, managing director and portfolio manager of Quantitative Management Associates at Prudential.

Prudential aims to keep portfolios broadly diversified, keep a hand in stocks and make sure there is cash available for any opportunities that come along.

“Earnings forecasts have not gone down so much,” Keon offered in the way of positive news. “I’m Tigger, not Eeyore,” he said—and stocks could offer high single-digit returns over the next decade, but the returns on bonds are likely to remain poor.

The slowdown is global, he noted, and according to Michael Lillard, managing director and chief investment officer of Prudential Fixed-Income management, slow growth and high unemployment have pushed people toward a “muddle-through outlook.”

The two themes to focus on, global markets and the global economy, are likely to remain under the shadow of the eurozone, said John Praveen, managing director and chief investment strategist, Prudential International Investments Advisers.

The positives: some relief in gas prices and better growth by targeting countries like India and China, according to Praveen.

The Keynesian muddle-through strategy is not unique to this period, said Quincy Krosby, chief market strategist of Prudential Annuities. Markets shift, Krosby emphasized, so although people feel the markets can be a risky place to be, she pointed out that it is just as risky to be outside the markets, because when the picture improves, you want to be there to take advantage of the opportunities that arise.

For commercial real estate, the muddle-through scenario is not a bad backdrop, said Kevin Smith, senior managing director and head of Prudential real estate investments, U.S. business, pointing out that the sector is in its third straight year of returns. The fundamentals are solid, it has outperformed stocks and bonds, and real estate has also been used as a safe haven for non-U.S. investors who among other tactics have purchased high-priced condominiums as investments.

Although some see fees as an issue, Keon sees value in variable annuities. And while some denounce bonds, Lillard sees more defensive, high-quality shorter-maturing bonds (with a three- to four-year maturation period) as having the potential to yield 4% to 5%.

U.S. companies are showing stronger balance sheets and less risk-taking, Lillard said, and there hasn't been aggressive hiring—all indicators of improving credit quality. He sees potential in local currency debt in emerging markets such as Mexico, where there’s a 6% yield in 10-year debt, which is better than in the developing world.

“We deal with the cards we’ve been dealt—if you just focus on the macroeconomics of global markets for investing you’d be paralyzed,” Krosby said.