"We are looking at the next two years at least of a slow grind; I emphasize grind, for the economy," David Sowerby, a portfolio manager at Loomis Sayles & Co., an investment firm focusing on mutual funds and institutions, said. Sowerby made his comments during a webinar on Wednesday hosted by Envestnet, a wealth management technology provider headquartered in Chicago.
His observations come as polls and markets are now pointing to a second term for President Barack Obama. Stock markets typically bode well for incumbents when they are up by 12% or more in an election year; as of this morning, the S&P 500 has returned 14.6% on a price-only basis, Sowerby said.
But one area that could hold President Obama back is the next employment report scheduled to come out in October, the last figures to be released before the election. If those employment numbers improve by more than 200,000 to 250,000, that will be good news for the incumbent candidate, according to Sowerby.
A win from either presidential candidate (the President or his Republican challenger Mitt Romney) will still run up against the expiration of tax cuts and a set of tax increases, the so-called "fiscal cliff," that could cost as much as $800 billion to the U.S. economy, primarily in the first quarter of 2013.
If those costs actually hit at $500 billion to $600 billion or more, the consequences for the U.S. economy would be dramatic, Sowerby said. The U.S. economy would quickly reach a 9% unemployment rate, and the 2% real growth rates that the country is seeing now would fall to less than 1%.
If those costs hit the U.S. economy at $200 billion to $300 billion instead, it would not be enough to push the country into a recession, Sowerby said, but would still point to growth of 2% or less. That is lower than the 2.2% growth the U.S. has averaged during the recovery from the financial crisis.
Stocks should continue to do well despite the apprehension surrounding the fiscal and tax policy issues, Sowerby predicts. "Despite not being quite positive on what's going to happen with the fiscal cliff, we're under the belief that you can still see expected stock returns of 8% to 9% over the balance of this decade," he said.
That forecast is bolstered by the current 16% median return on equity on a company; the forward P/E of about 13 times earnings that the average stock is selling at; a free cash flow yield of more than 5%; and dividend growth expected to be 13% to 14% this year, according to Sowerby.
While the Republicans will likely keep a majority in the House of Representatives, it will likely be too close to call as to which party will prevail in the Senate. That could be more good news for the stock market, as returns have historically been better when one party does not have a majority in Washington, Sowerby said.
The next mostly likely scenario would be a Republican sweep, he added, which could lift stocks in areas including aerospace, defense, energy, particularly coal, and financials.