Investment Commentary

photoDecem­ber 27, 2015

Our Out­look for 2016 and Beyond

Robert Brooke Zevin, Chair­man, Senior Port­fo­lio Manager

For the past 18 years, we have pur­posely opted out of the annual invest­ment indus­try rit­ual of pro­vid­ing fore­casts for the com­ing year. An impor­tant prin­ci­ple of our invest­ment approach has been and remains to avoid hav­ing a sin­gle fore­cast for the next year, or any other period of time. Many invest­ment losses are caused by investor con­fi­dence that he or she knows what will hap­pen in the future. Our pref­er­ence is always to con­sider a num­ber of dif­fer­ent things that might hap­pen, and to invest in ways that pro­vide pro­tec­tion against losses in bad mar­ket out­comes irre­spec­tive of how opti­mistic — or pes­simistic — we might feel as the year draws to an end.

How­ever, we are at a his­tor­i­cal moment when a num­ber of very large changes are under­way, each of them likely to per­sist for decades. Global warm­ing and global aging of the human pop­u­la­tion are two clear exam­ples. Both are baked into the cake. More pre­cisely, the sky is already full of green­house gases, and human soci­ety is still strongly depen­dent on fur­ther car­bon emis­sions for trans­porta­tion, heat­ing, man­u­fac­tur­ing, and even agri­cul­ture. In its most opti­mistic sce­nario, the most recent UN Report on Cli­mate Change has car­bon fuel use per­sist­ing until the end of this cen­tury. As for pop­u­la­tion aging, fer­til­ity rates have been declin­ing over the world for 200 years or more, in lock­step with declin­ing infant mor­tal­ity and increas­ing lev­els of income. Unless these trends sud­denly reverse, pop­u­la­tion aging is guar­an­teed for at least sev­eral more generations.


It is very likely that eco­nomic growth will remain slow in the most advanced coun­tries, where the pop­u­la­tion is already increas­ing slowly or declin­ing, and labor force growth is even lower. These coun­tries — West­ern Europe, Japan, and the United States — con­sti­tute about one-​half of the global econ­omy. In China as well, the labor force is shrink­ing for demo­graphic rea­sons that will not change for 20 years or longer. A demo­graphic shift to falling or neg­a­tive pop­u­la­tion growth, and large increases in the pro­por­tion of older peo­ple, is already the case in over three-​quarters of the global econ­omy. So again, it is not much of a stretch to think it likely that low growth rates, which have already been the case for some time in Japan, Europe, and Amer­ica, will con­tinue in these coun­tries, and spread to new ones.

Eco­nomic growth depends not only on pop­u­la­tion growth, but also on growth in out­put per per­son and per worker. Pro­duc­tiv­ity growth also has receded in recent years. And many experts do not expect a resur­gence in coun­tries that have already achieved very high lev­els of goods and ser­vices avail­able per per­son. Cli­mate change, pol­lu­tion, falling water tables, and other envi­ron­men­tal con­se­quences of eco­nomic growth have also increas­ingly become imped­i­ments to fur­ther growth.

Main Street’s Gain, Wall Street’s Pain

In our last Update (Stormy Weather, Sep­tem­ber 28) we laid out sub­stan­tial evi­dence for an already suc­cess­ful social/​political move­ment toward higher wages. Sub­se­quent data show real wages are now ris­ing as fast as or faster than they did in the “Golden Age” from 1945 to 1973. For both polit­i­cal and eco­nomic rea­sons, wages are very likely to con­tinue ris­ing at a fast pace. In the period from the Korean War to the early 1970s, some of the increase in wages was passed along by cor­po­ra­tions to con­sumers in the form of higher prices. But a large part also came out from cor­po­rate profit mar­gins, which were at record highs when the Korean War started in 1950, along with cor­po­rate cash hold­ings. Both of these mea­sures are again back at record highs, only this time cor­po­ra­tions have far less abil­ity to increase prices, for var­i­ous rea­sons dis­cussed in our last Update.

U.S. wages are likely to rise at a faster rate in 2016, while infla­tion increases much less rapidly. Other costs from health care to inter­est rates will also increase. Eco­nomic and social/​political pres­sures will limit price increases. With no pro­duc­tiv­ity increases, the only remain­ing way for cor­po­ra­tions to pay higher wages will be at the expense of prof­its. As in the years after 1950, cor­po­ra­tions again have amply inflated mar­gins and cash on their bal­ance sheets to coast through many years of declin­ing mar­gins with­out undue strains. Higher taxes and gov­ern­ment pres­sures on price increases will increase the rate at which profit mar­gins decline, but cor­po­rate pain will still be neg­li­gi­ble, and cor­po­rate tears of the croc­o­dile variety.

Under these con­di­tions, unadul­ter­ated earn­ings per share for most U.S. com­pa­nies are likely to show no growth in 2016, despite con­tin­ued reduc­tions in shares out­stand­ing from cor­po­rate buy­backs. This is also not so much a bold pre­dic­tion as a mere descrip­tion of what has already hap­pened in the past three years. We also antic­i­pate lit­tle or no change in the price of U.S. stocks, which again has already been the case for the past year. When mea­sured in dol­lars, we fore­cast equally dis­ap­point­ing results for stocks in most of the world. Investor returns will be close to the div­i­dend yields on stocks. With bond yields ris­ing slightly and prices falling, U.S. bonds will prob­a­bly lose money in 2016 after tak­ing account of price changes as well as inter­est pay­ments; while stocks will earn two or three percent.

Our one-​year fore­cast could eas­ily turn out to be wrong because of fluc­tu­a­tions in finan­cial mar­kets, for good rea­sons or not, near the end of next year. This is pre­cisely why we have avoided such fore­casts in the past. How­ever, in this case, we believe our fore­casts reflect impor­tant and long-​lasting changes that are under­way in our polit­i­cal econ­omy. Para­dox­i­cally, because they are about long-​lasting changes, they are more likely to look cor­rect after 12 years than a mere 12 months.

How We Are Using These Forecasts

Think­ing about the next year and these longer hori­zons, we believe that with such low expected returns, it makes sense to keep some money out of the stock mar­ket and in cash, even though stocks do not seem to have large down­side risk. With such low expected returns, stocks will prob­a­bly con­tinue to wob­ble up and down around their flat trend. We have been using cash to buy indi­vid­ual stocks that appear to offer much bet­ter returns after declin­ing, and rais­ing fresh cash when other stocks appear over-​priced after appre­ci­at­ing. The stocks we do own are still very con­cen­trated in the U.S., which has the strongest econ­omy (and cur­rency) of the major world economies, and the best record of reduc­ing debt bur­dens since the Finan­cial Crisis.

In addi­tion we favor stocks that are likely to grow earn­ings sub­stan­tially in a slow-​growth envi­ron­ment, par­tic­u­larly com­pa­nies that are among the causes of falling prices rather than the vic­tims — as in e-​commerce vs. lux­ury brand stores. Health care com­pa­nies are also likely to grow at above-​average rates because of global aging, ris­ing incomes in emerg­ing coun­tries and a bloom­ing of pow­er­ful new ther­a­pies. We also seek com­pa­nies with very safe and sus­tain­able div­i­dends that are priced to yield sub­stan­tially more than stock and bond mar­ket aver­ages. In these ways we hope to achieve a stead­ier, higher return than the stock and bond mar­ket indices. Even so, we would not expect our clients’ port­fo­lios to earn more than five to 10 per­cent a year on aver­age over the next decade.

We can rea­son­ably hope that these mod­est returns will be the cost of a dra­matic improve­ment in the for­tunes of the 99%. And on that thought, a happy hol­i­day sea­son to all fol­lowed by a fruit­ful and (against the odds) peace­ful New Year,


Robert has been a leader in socially respon­si­ble invest­ing since his pio­neer­ing work in SRI forty six years ago. He is cur­rently Chair­man of Zevin Asset Man­age­ment and has held var­i­ous senior posi­tions at the for­mer United States Trust Com­pany of Boston. In the 1960s Robert was also a pio­neer in the use of Mod­ern Port­fo­lio The­ory and com­puter tech­nol­ogy applied to invest­ment deci­sion making.