5 Global Forces Shaping the Investment Landscape
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Impactful global forces in a transforming world
From innovations that disrupt how we live to dwindling resources and government reforms, these transformations will affect our financial lives for years to come. Consider them as you develop and assess your long-term investment strategy.
Candace Browning, Head of BofA Merrill Lynch Global Research
Never get too comfortable. That could be today's universal mantra, applied equally to people, companies, countries and even the earth itself.
Just when we think we've adjusted to a new normal, further changes throw us off balance. Entire industries are upended by the debut of a new category-killing product or service — which then, just as quickly, may find itself outmoded. Nations, too, see their fortunes constantly shifting. Not long ago, many were calling China the new economic superpower, while the U.S. was stuck in place, importing energy and exporting jobs. Yet today, China's growth is slowing, and the U.S., benefiting from a boom in energy production, is quietly becoming a destination for foreign manufacturers.
In 2013, to help you make sense of this changing landscape, we introduced "A Transforming World," drawing on the insights of top economists, researchers and strategists from across Bank of America, Merrill Lynch, and U.S. Trust. Building on that work, we've identified five broad areas of change — earth, markets, innovation, people and government — that we believe will reshape the world during the next two decades.
These are expansive themes, and some may already be reflected in your investments. They offer a closer look at how the world and global markets are evolving, which could help inform how you think about investing a portion of your assets for potential growth.
However, it's important to keep in mind that this approach — also known as thematic investing — is not a substitute for a well-considered, diversified mix of holdings that addresses your personal short- and long-term goals and your tolerance for risk. Rather, it can be a component of your overall strategy.
"When you start to look at the world this way, you not only identify investment opportunities, but you have a framework that can help you anticipate and prepare for changes yet to come," says Candace Browning, Head of BofA Merrill Lynch Global Research.
In a world where change is both constant and expected, there are basic, everlasting themes that will remain essential and relevant to your individual goals and needs. This approach helps put global change into perspective and can help you, as an investor, take advantage of macro issues and trends.
Global forces: Earth
Energy, Sustainability and Investing in Your Values
The challenges facing our planet are forcing industry and governments alike to find innovative ways to address them — all while balancing competing interests. Take, for example, the U.S. energy boom. Innovations in drilling technology have released so much oil and natural gas from shale rock that what had been the world's largest importer of energy now may be on the road to energy independence. In 2013, the U.S. had already become the world's top energy producer, surpassing both Saudi Arabia and Russia, according to the U.S. Energy Information Administration. Low energy costs are in fact fueling a manufacturing renaissance and prompting foreign companies to move production here.
Chris Hyzy, Chief Investment Officer, Bank of America Global Wealth & Investment Management
Yet the very technology enabling the energy boom — hydraulic fracturing, or fracking — has raised some environmental concerns, and in March 2015 the Obama administration announced tighter federal regulations on fracking. The U.S. may have to choose wisely where it drills, says Christopher Wolfe, Chief Investment Officer, Portfolio Solutions, Private Banking and Investment Group & Institutional at Merrill Lynch Wealth Management. "The droughts caused by climate volatility have lowered water tables in parts of the U.S., so fracking may soon be profitable only where there's greater access to water, such as in the Northeast," says Wolfe. Such issues could slow the U.S. energy juggernaut. But an increased focus on achieving greater energy efficiency could help offset that slowdown.
Advances in drilling technology are pushing domestic oil production to new heights
Shortages of water — and also of land, energy and food — in many parts of the world are having far-reaching effects, says Christopher Hyzy, Bank of America Global Wealth & Investment Management Chief Investment Officer. He notes that drought conditions are growing more severe in the face of accelerating urbanization. Yet population growth is expected to drive demand for water much higher, leading to a 40% shortfall in available supply by 2030, according to the World Bank. "Governments and the private sector will have to spend billions on a commodity most of us take for granted," says Hyzy. "Desalination plants and infrastructures that purify rainwater are no longer just 'interesting concepts,' and we're seeing a wave of technologies to mitigate the scarcity of water."
Companies and organizations working to address sustainability are finding allies in a rising class of investors focused on environmental and social issues. By putting their money into companies working to address water shortages, for instance, or by becoming activist shareholders to urge corporate responsibility, these investors are looking to achieve returns while pursuing their beliefs in a better world. (Learn more about "Socially Responsible Investing.")
The Opportunities
There are diverse ways to take advantage of various energy-related trends, and much of the decision will be determined by both your long-term goals and your personal values. Those who see opportunity in U.S. production of crude oil and natural gas can address this theme using exchange-traded funds (ETFs) that track an index of master limited partnerships that build and operate pipelines and other elements of the transportation infrastructure. They can also look at ETFs that track benchmarks of companies that make equipment and provide services for energy exploration, extraction, production and transportation. Industries that can help meet future demand for natural resources could also do well, providing potential opportunities for investors in agribusiness ETFs, which track indexes of companies involved in crop production, livestock operations, agricultural supplies, and agricultural machinery and chemicals.
Those who want to make sure their portfolios align with their beliefs may want to look at ETFs and other investment products that support global sustainability themes.
Global forces: Markets
Amid the Shift From Bonds to Stocks, a Need to Be Selective
Christopher Wolfe, CIO, Portfolio Solutions, Private Banking and Investment Group & Institutional Merrill Lynch Wealth Management
Since 2007, investors have poured more than $1 trillion into bonds. That's not a tide that's easily turned, even by the extraordinary performance of the stock market in recent years. "The great rotation out of fixed income and into equities has been incremental, not sudden, and will continue slowly over many years," says Mary Ann Bartels, Chief Investment Officer, Portfolio Solutions, U.S. Wealth Management at Merrill Lynch Wealth Management. "Most money going into stocks today is coming from investors' cash, not their bonds."
Fixed income remains an important part of a well-diversified portfolio, particularly if you're approaching retirement. But the search for higher yields, consistent cash flows and stronger growth requires a more customized approach to align your strategy with your goals. "In today's environment, traditional investing styles may be less important than before, as you seek to build around themes, trends and investing solutions," says Hyzy. To that end, building a portfolio of individual stocks or actively managed funds that are benchmark-agnostic along with more tax-efficient solutions that track market indexes could be more effective.
U.S. Cumulative fund flows since 2006
The Opportunities
Not all stocks will benefit equally as investors gradually shift bond-heavy portfolios to reflect a more normal allocation to equities. Bartels suggests looking at stocks, mutual funds and ETFs in sectors that could take advantage of stronger consumer and corporate spending. The best opportunities may be found in companies that look for ways to reinvest in themselves — a trend, Bartels notes, that can be seen in the recent pickup in mergers and acquisitions.
At the same time, however, it's important to consider the risks that inevitably come along with a rising stock market. "As international share prices catch up with corporate profits and annual market gains fall back toward long-term averages, you will need to think more globally," Wolfe says.
Global forces: Innovation
Technology Changes Everything — and Then Changes It Again
Savita Subramanian, Head of U.S. Equity and Quantitative Strategy, BofA Merrill Lynch Global Research
"Today corporations no longer think they are too big to fail — they worry instead that they're too big to succeed," says Michael Hartnett, Chief Investment Strategist at BofA Merrill Lynch Global Research, who notes that the forward march of disruptive technology — new ideas that radically change the status quo — can make a young, nimble company with a great idea more than the equal of a corporate legend. "This is universal," Hartnett says. "More and more, the ability to innovate will separate the winners from the losers."
That's why U.S. companies, in particular, funnel so much of their profits into research and development. "The U.S. is the global leader in the number of patents granted, and in 2014 accounted for 60% of total global venture capital," notes Savita Subramanian, Head of U.S. Equity and Quantitative Strategy for BofA Merrill Lynch Global Research. Technological innovation is largely responsible for the energy boom, while creators of cloud-based software and services are making information universally available and enabling companies to sell directly to consumers on their smartphones and tablets. Farmers can work their fields by remote control while sharing data about their crops with dealers and commodities markets. And 3-D printing will increasingly help small businesses compete with giant manufacturers.
The greatest innovations will emerge where gaps between supply and demand are widest, says Wolfe. In medicine, for example, the country could face a shortage of 46,000 to 90,000 physicians by 2025, according to the Association of American Medical Colleges. "Yet millions of baby boomers will need more medical care, which means we're likely to see the greatest period of medical innovation ever," says Wolfe. He foresees devices that will send blood pressure readings and other data to physicians in real time, greatly reducing the need for office visits and waiting rooms.
The Opportunities
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Looking for exciting new innovations is all well and good, but it can come with a lot of risk, and it's important to understand yourself as an investor before trying to find "the next new thing." But the list of businesses that could benefit from an increased focus on innovation is quite long: It can encompass everything from companies developing robotics for manufacturing and energy technology to personalized medicine and higher mobile Internet usage. Bartels also notes that many large technology companies tend to have lots of cash on the books and are likely to benefit from recovering demand in Europe and Japan.
Hyzy expects the life cycle of innovation to become even shorter as companies store ever greater amounts of data. "Cloud computing and Big Data are creating flexible, open technology environments that allow for constant idea generation and the formation of new technologies," he says.
Global forces: People
Longer Lives, the Rise of Women, and Emerging Market Wealth
Living longer, especially for populations in the U.S., Japan and Europe, will mean more spending on health care, of course, but also on travel, leisure, entertainment and financial services. But where will that money come from? "With greater longevity, people will have to invest in equities for growth, and they'll need help determining how to avoid running out of money," says Bartels. Investors looking for sources of income could result in a boon for dividend-paying equities — especially at a time when nearly half of S&P 500 companies offer a dividend yield higher than that of the 10-year Treasury, Subramanian notes.
Another transformative population shift involves women, as some 1 billion enter the workforce and help propel the world economy during the next decade. "Globally, as female labor participation rates rise there is a direct correlation to a rise in growth," says Hyzy.
Developing countries are undergoing their own dramatic changes. Incomes are rising, education is improving, and large youth populations are growing up with cell phones in their pockets and easy access to the Internet. That should result in a growing need for durable goods, access to entertainment, a build-out of the Internet in countries that don't yet have a robust cyber-infrastructure, and more and better health care.
Mary Ann Bartels, CIO, Portfolio Solutions, U.S. Wealth Management, Merrill Lynch Wealth Management
The Opportunities
International brands in a range of industries, including apparel, personal care, automotive and luxury, could help serve the middle classes of emerging markets. Industries that may benefit from the longevity revolution include pharmaceuticals and health care, as more people live longer with chronic diseases. Worried about outliving their savings, people will also seek out insurance products and asset and wealth management services. The baby boom generation is retiring with more collective wealth than any previous generation, and baby boomers are likely to spend more than previous generations did. The spending will be focused in areas such as senior living, travel and leisure, smart technologies and services for aging in place, as well as retail and anti-aging products. The leisure and hospitality industries could be among the largest beneficiaries of a $15 trillion silver economy, adds Bartels.
The longevity economy and other global population trends
Global forces: Government
The Power of Reform
Michael Hartnett, Chief Investment Strategist, BofA Merrill Lynch Global Research
Capital tends to flow to countries where tough reforms are in progress. "Equity markets often do very well in countries with reform-minded politicians who have the backing of the electorate," says Hartnett, who cites reforming countries like India, China and Japan. "Today, after many regime changes and reforms, these countries' equities and bonds have been some of the best global performers during the past 12 months," he says. "Markets have started to reward them for good behavior."
In the U.S., political gridlock has stalled efforts to reform the complex tax code and find long-term solutions for keeping Medicare and Social Security solvent and the budget deficit in check. With Congress and the White House controlled by opposing parties, that's unlikely to change before the election in 2016, but markets would almost certainly applaud any bipartisan efforts at reform before then.
China at a Crossroads
Changes could come sooner in China. Investors long accustomed to rapid economic growth that was in the double digits as recently as 2010 have been disappointed by the recent slowdown — to 7.8% in 2012, 7.7% in 2013 and 7.4% in 2014. While most other countries would love to have an economy growing at more than 7% annually, the deceleration in China is a sign of underlying problems that could push down gross domestic product (GDP) growth still further.
But the Chinese government has also been actively rooting out corruption and making critical financial reforms. The central bank has been intent on removing controls on interest rates, liberalizing its corporate bond market and letting the country's currency fluctuate according to market forces, rather than pegging it to the U.S. dollar. Hartnett notes that such badly needed reforms, by loosening the government controls that have guided the Chinese economy, could result in economic volatility but also bring monetary easing.
Meanwhile, other Asian countries are becoming more attractive. "Wage inflation in China, coupled with sluggish global economic growth and declining exports, has continued to squeeze the profit margins of Chinese companies," says Wolfe. As a result, many businesses are moving factories to the Philippines, Indonesia and Vietnam, and foreign capital is following.
The Opportunities
After a three-decade run, China's GDP has been trending downward in recent years
Those pursuing higher yields may want to look carefully at the scene across the Atlantic. Mutual funds or ETFs that focus on European bonds may be a good way to gain access to those markets.
In China, with the central government pushing banks to continue funding local infrastructure projects, there's a greater likelihood that such projects will be completed, benefiting foreign suppliers. But a shift of manufacturing operations to other countries could help those emerging economies prosper. The interrelated dynamics in these countries are extremely complex, and Hyzy advises investors to consider active management by experienced managers. "You will need to be very selective," he says.
What It Means for You
Preparing Your Investments for Global Change
Change means uncertainty, and investment strategies that focus on these global themes certainly come with their own challenges. As countries around the world pursue global growth, for example, their economies could overheat, sparking considerable inflation. You don't want to entrust all of your goals to a single investment strategy, no matter how diversified it is.
Indeed, as you consider these major investment themes and think about ways you might incorporate them into your personal portfolio, it's important not to lose sight of basic investment principles that can help you minimize risks while taking advantage of global opportunities.
Keeping the value of diversification in mind, for example, you can choose among a wide range of options, from ETFs that index emerging nations to actively managed mutual funds that seek higher performance in specific sectors as a way to spread thematic and other investments broadly to reduce the risk of your overall portfolio. And while thematic investing can be part of your portfolio, you will probably want to keep your focus as well on working toward your larger objectives — investing for retirement, paying for college or saving for a large purchase — while maintaining a comfortable level of risk.
Still, investing in global themes remains imperative in a transforming world. "The supercharged equity returns we've seen since mid-2009 are a result of unprecedented government stimulus and won't continue indefinitely," says Hartnett. "Instead, you will have to be more theme-specific to do well. And with the massive changes occurring today, there is no better time to think about how to implement big themes in your portfolios."
For additional insights: Return to the A Transforming World home page to learn more about these five investment themes.
How Merrill Edge Can Help:
  • Learn more about the wide array of investment choices available to you through Merrill Edge.
  • Use the Merrill Edge mutual fund and ETF screeners to find funds that reflect themes that may interest you — such as emerging markets and sustainability.
  • Use the Merrill Edge Asset Allocation Tool to create and manage an investment mix that can help you pursue your financial goals, as the world and your needs evolve.
  • Speak with a Financial Solutions Advisor about how to build a portfolio that's suited to your goals and personal situation.
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All information is as of August 2015.

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