Ariel Investments picks stocks from four broad universes: small-caps, mid-caps, large-caps, and international stocks. We use the benchmarks above to track the performance of these areas on a very broad basis.
Clearly, international stocks are on fire in 2017. As above, in the first four months of this year, the MSCI EAFE gained +9.97%, which is more than the +8.78% average annual gain since its 1986 inception. U.S. large caps and mid caps are also starting strong this year. April was a solid to very good month across all our universes, with foreign fare leading the way and small caps on top in the United States.
There was no one key investment event this April, but the most crucial theme was clear: rising global tension and instability. After Syria unleashed chemical weapons on its own people, the United States responded with a cruise missile strike against a key Syrian airfield. Just a week later, our military dropped what was dubbed the “mother of all bombs” in Afghanistan to destroy a series of caves held by ISIS militants. Then, tension around North Korea’s nuclear weapons program ramped up significantly. In just one month North Korea had a failed missile launch, showcased its so-called “disco ball” (supposedly a compact nuclear weapon), and held a larger-than-usual military parade. In France, far-right populist Marine Le Pen secured a run-off election against newcomer Emmanuel Macron in the country’s presidential election. The two parties that have dominated French politics for decades, the socialists and the republicans, are on the outside looking in. Any one of these things could have caused pain in the market. And yet, the markets walked them off and moved ahead, once again proving Warren Buffett (Trades, Portfolio) right: “markets are stronger than governments.”
Turning to the intermediate term, it has been a strong 12-month period for equities. The table below shows our investment universes, by style.
The recent past has been kind to most stocks—with the lone exception of international growth equities. Most styles had above-average years and some doubled their long-term averages. Although value has mostly outperformed growth, the larger point is how balanced returns have been across styles.
We continue to believe U.S. stock valuation levels are a bit stretched. Our BNY Mellon data for the Russell 2000 Index dates back to 1999; over that period, its forward P/E ratio has averaged 17.6X. In March, it reached 19.2X. As mentioned last month, the valuation gap between value and core indexes are smaller than usual. For instance, since 2000, the Russell 2000 Value Index’s average 15.1X forward P/E ratio has been 250 basis points (bps) cheaper than the Russell 2000 Index’s 17.6X average. Now, however, that gap has narrowed to 140 bps.
We continue to think relatively higher valuations are likely to restrain returns later this year and over the intermediate term. Of course, our unabashed faith in long-term stock market returns remains unchanged. Equities have long had better returns than other asset classes, so our confidence remains intact. Plus, we remain deeply opposed to market timing.
The opinions expressed are current as of the date of this commentary but are subject to change. The details offered in this commentary do not provide information reasonably sufficient upon which to base an investment decision and should not be considered a recommendation to purchase or sell any particular security.
