Bernstein’s Top Investment Ideas For 2017

The well-known active manager shares his views for the coming year.

Reviewed by: Cinthia Murphy
Edited by: Cinthia Murphy

Hear from Richard Bernstein and more than 120 speakers at Inside ETFs 2017, which runs Jan. 22-25 in Hollywood, FL. See the agenda and register here now for the world’s largest ETF conference.

Richard Bernstein is a well-known name among active managers, and a big proponent of ETFs. Today his firm, Richard Bernstein Advisors, has about $1.4 billion in ETF assets, and is one of the fastest-growing ETF model portfolio managers. Bernstein will be speaking at the upcoming Inside ETFs conference in late January in Florida, and he offers here his best investment ideas for 2017, including his first-ever foray into gold. At the upcoming Inside ETFs, you’ll be offering ideas of where to invest in 2017. Can you give me a preview of your outlook for next year?

Richard Bernstein: The fundamentals in the U.S. economy, and subsequently in the global economy, have been improving all this year. The market troughed in February, because of several things: No. 1, the profit cycle was troughing in the U.S. It looks like the worst of the profit recession was in the fourth quarter of 2015. Inflation expectations actually started to go up as well. They, too, troughed back in February.

So we've had a backdrop of gradual improvement in the fundamentals supporting the U.S. stock market. Subsequently, it began to spread around the world. Inflation expectations have also troughed in the U.K. largely because of Brexit and the weak pound. They've troughed in Germany, and they're stabilizing in Japan. So there's a change going on in the global economy that most investors are completely unaware of.

Couple that with the post-election reaction. A lot of people have asked why the stock market reacted the way it has, but honestly, we already had an improving situation. Now, the President-elect is proposing the largest Keynesian fiscal stimulus package since the Great Depression. What's not to like? It's that simple.

What does that mean for 2017? Investors are still very unaware of the improvement in the global economy and the improvement in the U.S. economy. This summer proved my point, where the story in the fixed-income market was “lower for longer.”

I think “lower for longer” will go down in history along with the euphoria for technology stocks in March 2000 and the euphoria for housing in 2007. Nobody said “lower for longer” five years ago. But they decided this summer, finally, it was going to be lower for longer right in the backdrop of inflation expectations troughing.

Although people have rallied to the cyclical cause, there are many fixed-income investors who think this is temporary. They will learn it's not temporary. A year from now, people will appreciate the appreciation in the nominal growth of the global economy—key word here being “nominal.” Looking to 2017, what sectors do you like?

Bernstein: In our portfolios, we've been overweight since the first quarter in energy, materials, financials and technology. Why? Those are typically the four sectors that do the best as profitability improves. And profitability is improving.

If you look at most sector performance charts, you can do one-month, three-month, six-month, year-to-date—you'll see that it's dominated by cyclicals, yet very few people are embracing the story. We're equal-weight industrials. At the bottom is your traditional defensive sectors—telecom, health care, utilities and consumer staples. Are valuations a concern? You’ve said before that the popularity of any strategy leads to its demise because valuations spike, and investors end up owning really overvalued names. How do you avoid falling into the overvalued trap?

Bernstein: One of the things that’s scared people away from equities is high P/Es. People have said, “When P/Es are high, your returns have to be low.” That's not always true. Where it's not true is in what's called an “earnings-driven” market.

There have been many earnings-driven markets through time, but it's funny how people think the only way the market can go up is by interest rates falling and multiples expanding. That's not true. That's an interest-rate-driven market, but there're also earnings-driven bull markets.


The early 2000s' bull market was an earnings-driven market. One of the reasons people got trapped at the end was that they forget they'd started with a very high P/E and ended with a low P/E.

When you had the low P/E, people said, “Look how cheap equities are.” And they missed the fact that it was an earnings-driven market, and you sell an earnings-driven market when the P/E is low, much like a deep cyclical stock. You buy a deep cyclical stock when the P/E is high, and you sell it when the P/E is low.

That's what we think is going on for the whole economy. That's been our story, that, yes, the multiple is high, but we think we're entering an earnings-driven market. So the bull market will be accompanied by shrinking P/Es. Does it make sense to invest in this environment through a factor lens?

Bernstein: As someone who was looking at how different factors perform at different points in the economic cycle 25 to 30 years ago, I’d say you can always do that. But the problem is it's no panacea. People think it's easier or sexier to do that. They’re wrong.

What you’ll find is that some people talk about value versus growth, or large versus small or different factors. They're all driven by the macroeconomy. If you don't understand what's going on in the macroeconomy, you won't understand why the factor is or isn’t working at any point in time.

Nothing works all the time. I will tell you, for instance, this is the wrong part of the cycle to invest for momentum. That's not traditionally what works at this point in the cycle. What works?

Bernstein: What traditionally works now is more value, more small-cap, more cyclical-type factors. A momentum factor works toward the end of a bull market, because as fundamentals begin to erode, momentum keeps going. That's usually a warning sign, by the way.

With momentum investing, it's never an issue of when to buy; it's always when to sell. Momentum investors don't get killed by buying; they get killed by hanging on too long. What’s your recommendation on fixed income?

Bernstein: You don't have to make it sexier than it is. If you agree with me and you think interest rates are going up, and nominal growth is going to improve over the next 12 months, the whole thing in fixed income is to shorten the duration. It's basic stuff.

The time to seriously overweight fixed income is when the yield curve inverts. But as you know, the yield curve is steepening. That means you have to shorten duration. It means you have to lower your weight in fixed income. It's pretty straightforward. Outside the U.S., everyone seemed to be looking for a bottom in emerging markets earlier this year. Has that changed?

Bernstein: Let's assume we don't have widespread trade barriers and we don't enter a trade war. If we go that far, that would be quite negative for emerging markets. No doubt about it. But I don't think we're going to do that. Why? Because 11% of the U.S. economy is manufacturing; 70% is consumption.

If we get into a trade war, we're going to hurt the 70%. And the 70% is basically called the “household sector.” And the household sector is, for a politician, voters. So if you're a congressman and you're on a two-year election cycle, and you're not in a manufacturing district, you're not going to be too psyched about trade barriers.

With that as a backdrop, we had basically a zero weight in emerging markets for most of the last five years through 2015. Earlier this year, we actually started overweighting emerging markets. And you're holding on to that position going into next year?

Bernstein: Very much so. Profitability in emerging markets is picking up. There's still a question of whether people are too enthusiastic about them, but not the way they were several years ago.

If you believe, as we do, that the global economy is improving, you want to buy the countries—much like you'd want to buy cyclical industries—that have the greatest sensitivity to the improvement in global growth, which will be your lowest-quality countries, emerging markets. Is BRIC [Brazil, Russia, India, China] still a good investment approach, or is it outdated? Earlier this year, Goldman Sachs said BRIC is still viable and it should represent about 50% of anyone's broad emerging market allocation. Do you agree?

Bernstein: I don't know about the numbers, per se, but it's very hard to say you're going to invest in emerging markets and ignore the BRICs. Every emerging market guy and his brother try to say you shouldn't invest in the BRICs because you can easily just buy an emerging market ETF. But it's really hard to invest in emerging markets and completely ignore the BRICs.

Our exposure is sort of BRIC-ish. We try to manage money by getting the broad exposure, and worry secondarily about what countries are involved in that broad exposure. To say we want to be in Botswana and not in Hong Kong, that's not RBA's expertise. Any other assets you particularly like going into 2017?

Bernstein: the only thing we've done in the last six to nine months I would say is very unique for our firm is we've actually added gold and gold miners to our portfolios—first time in the history of our firm.

We're not gold bugs, but we think the time to look at real assets, of which gold is just another real asset, is when inflation expectations are going up. And as I said, inflation expectations are going up. Is this the first time inflationary expectations have gone up since you started doing this?

Bernstein: It is, actually. We started the firm in 2009, and started managing money in 2010. Inflation expectations have pretty much been falling through that whole time period. This is the first time it looks like something's really changing, so we put some gold and gold miners in the portfolio, anywhere from 3-6%, depending on the portfolio. Has it been an interesting experience or a scary experience thus far managing a new asset?

Bernstein: The dollar has been ripping a little bit recently, so that hurt us. But we're actually looking for a reasonably stable dollar over the next 12 to 18 months. And if we're right on that, gold should do fine. The risk to everything we've talked about, everything that I've advocated here, is the dollar. If you get a screamingly strong dollar, everything I've told you will not work.

If you think the dollar's going to be really, really strong, you should do the exact opposite of everything I've just mentioned to you.

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Cinthia Murphy is head of digital experience, advocating for the user in all that does. She previously served as managing editor and writer for, specializing in ETF content and multimedia. Cinthia’s experience includes time at Dow Jones and former BridgeNews, covering commodity futures markets in Chicago and Brazil equities in Sao Paulo. She has a bachelor’s degree in journalism from the University of Missouri-Columbia.