Dynamic forces are sweeping across the globe, reshaping our lives and creating a wave of new investment opportunities A Transforming World The U.S. An economic revival spurred by a surge of innovation in tech and energy The Markets Behind the “great rotation” to equities— and why it could herald a new era of growth The World Emerging markets trigger fundamental shifts in global economic and political power
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Dynamic forces are sweeping across the globe, reshaping our
lives and creating a wave of new investment opportunities
A Transforming World
The U.S.An economic revival spurred by a surge of innovation in tech and energy
The MarketsBehind the “great rotation” to equities—and why it could herald a new era of growth
The WorldEmerging markets trigger fundamental shifts in global economic and political power
The linkages across financial markets and economies can present both opportunities and risks to you as an investor. Our global relationships give us insights into the most influential markets in the world. And, we are connecting all of our talent and capabilities to offer you insights and trends that can help you to be successful and stay one step ahead.
— Brian Moynihan Chief exeCutive OffiCer, Bank Of ameriCa
“ “
A TrAnsforming World
ithin 20 years, more than
half of the world’s population
rises out of poverty—while
the median age in developed
countries jumps by five years.
The U.S. heads toward energy
independence and natural gas prices plummet as
advances in technology drive a boom in extraction.
Climate scientists studying the rise in sea levels
revise their forecasts upward. Technological
innovations, such as low-cost 3-D printing, fuel a
resurgence in U.S. manufacturing. The U.S. Federal
Reserve extends a monetary easing policy that
could boost the economy but also risk inflation, as
central bankers around the world move markets with
unprecedented power.
Just a few years after a global crisis that threatened
to spin the world off its axis, the pace of change
continues to accelerate and should for the foreseeable
future. “Dynamic forces are right now reshaping
our financial lives. We’re at a rare inflection point,”
says Mary Ann Bartels, chief investment officer
of Portfolio Strategies at Merrill Lynch. “If we can
understand the larger patterns in the global economy
and see how those forces are coming together, we
can put ourselves in the strongest position to take
advantage of them.”
Sorting through the noise of today’s nonstop
A Transforming WorldDynamic forces are sweeping across the globe, reshaping our lives and creating a wave of new investment opportunities
Wnews cycle, economists, researchers and strategists
throughout Bank of America Merrill Lynch and U.S.
Trust have identified three major themes underlying
what they believe to be global transformation.
First, amid rapid strides toward energy self-
sufficiency, there is a surge in U.S. business and technological innovation that has the potential
to revitalize the economy and spark another long-
lived bull market. Second, there are far-reaching shifts in the world’s financial markets. Third, a massive rebalancing of the world’s economic, political and social power is under way. There
has been a rapid rise of a powerful middle class
in emerging market nations that had long been
stratified between rich and poor, alongside a global
need for essential resources that’s set to explode in
coming decades.
“The rebalancing of global growth from the
developed to the developing world is a trend we’ve
been discussing for some time,” says Chris Hyzy,
chief investment officer at U.S. Trust. “Demographic
changes—some that benefit the world economically,
some that increase risk—are creating imbalances
that are changing the nature of global growth.
So are the movement of capital around the world
and the related political pressures. In all these
developments, we see a number of megatrends
emerging.”
cover artwork by bryan christiewww.ml.com/insights • 3
4 • A trAnsforming world
an eCOnOmiC revival is taking hold in the U.S. Although no one expects easy
solutions to the problems facing the country’s economy, there’s a new optimism
about long-range prospects. An energy revolution, significant labor-market shifts
and massive technological innovation are raising hopes for the future.
energy independence For almost 70 years, the U.S. has had to depend
largely on imported energy. Now, even though the U.S. still imports roughly 25%
of its energy—chiefly in the form of petroleum—there’s a growing consensus that
the nation is on its way to becoming energy-independent. The impetus is the boom
in extracting oil and natural gas from shale rock formations, and the technological
innovation that has made it economically feasible. Called hydraulic fracturing, or
“fracking,” the environmentally controversial technology has already sparked an
energy revolution, with natural gas as its cornerstone. According to some estimates,
the country’s natural gas reserves could last an additional 100 years. Oil production
is rising too—in 2012 the nation’s supply increased by a million barrels per day, the
fastest growth of any non-OPEC country in the world.
The shale-gas boom has already greatly reduced natural gas prices and sparked
a revival of the U.S. petrochemical industry, which uses natural gas as a raw
material. “In the past five years, the U.S. has gone from being the largest importer
of petroleum products in the world to the second largest exporter,“ says Francisco
Blanch, head of commodities and derivatives research at BofA Merrill Lynch
Global Research.
If future shale-gas extraction continues to pass muster with state and federal
environmental regulators, the impact may be felt across the economy. Says Hyzy,
“The number of jobs created over the long term could itself be transforming.”
And if electric utilities accelerate their shift from coal or oil to natural gas, “we
could end up with the cost of energy to U.S. manufacturers returning to what
it was in the 1970s or even the ’60s, adjusted for inflation,” says Christopher J.
Wolfe, chief investment officer of the Private Banking and Investment Group
at Merrill Lynch. Consumers, too, could potentially benefit through lower
utility bills, leaving them more money for discretionary purchases. And
because natural gas burns more cleanly than coal, the country could see
environmental benefits as well.
U.S. InnOvATIOn
“the number of new energy jobs created could itself be transforming.”
Chris HyzyChief Investment Officer, U.S. Trust
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A TrAnsforming World
Shifts in the labor market Not long ago, the big story about American
jobs was about how many were being outsourced to cheaper markets. That
narrative has changed dramatically. During the recession and the sluggish
recovery of the past few years, labor costs have dropped significantly. While
this has been painful for the American worker and has not yet helped reduce
unemployment, it has enabled U.S. corporations to become more profitable. For
manufacturers in particular, the ability to control labor costs has helped spur a
renaissance. U.S. manufacturing is now “very, very competitive, if not the most
competitive we’ve ever seen,” Hyzy says. According to Ethan Harris, co-head of
Global Economics Research at BofA Merrill Lynch Global Research, workers will
likely regain leverage only when the jobless rate dips below 6%.
a new era of innovation In addition to lower energy and labor costs,
there’s another important element to the U.S. economy’s new story: a series of
what Hyzy terms “mega-innovations.” Cutting-edge technologies like robotics,
personalized medicine based on genetic testing, cybersecurity, big data, cloud
computing, digitization, custom manufacturing and quick time-to-market design,
among others, are bringing new life to the U.S. economy.
A recent BofA Merrill Lynch Global Research report on the state of the American
innovation economy, which stretches from social media to software to industrial
engineering, uncovered compelling evidence that “innovation in the U.S. is alive
and well,” says Savita Subramanian, head of U.S. equity and quantitative strategy at
BofA Merrill Lynch Global Research and author of the report. “It could continue to
serve as an engine for growth for some time to come.” The report said that the U.S.
spends more on research and development (R&D) than China, Japan, South Korea
and Taiwan combined, or even the entire European continent. Meanwhile, American
firms account for 75% of the global venture capital market.
U.S. InnOvATIOninvested in innovation One critical measure of an economy’s vitality is the amount it spends on research and development of new and innovative products. By this yardstick, the U.S. still leads the world by a sizable margin.
United States $408.7
China$179
Japan$140.8
Germany $86.3
$ in billions
Sources: Organisation for Economic Co-operation and Development, UNESCO
www.ml.com/insights • 5
BUIldIng InflUenCethe rebounding housing market could boost the economy—and innovation—for years to come
The housing revival could be a long-term force in helping re-shape the U.S. and global economies. In the U.S., 2013 prices are expected to rise 8%, says Michelle Meyer, senior U.S. economist at BofA Merrill lynch global Research. In the next decade, housing could appreciate by as much as 40%.
That bodes well for the broader economy over the next sev-eral years. “Increasing construction will have a powerful effect,” Meyer says, pointing out that with 27,000 construction jobs being created each month, U.S. gross domestic product growth could be boosted by almost half a percentage point in 2013.
Rising home prices can have a powerful effect on con-sumer sentiment, and whole sectors are likely to benefit
from increasing strength in home sales—among them home-improvement retailers, appliance manufacturers, credit card companies and other consumer discretionary businesses. Homebuilders and gdP-sensitive sectors such as technol-ogy and industrials could also do well, along with real estate investment trusts (ReITs) and regional banks responding to an increasing demand for loans.
Meanwhile, with interest rates still low and prices remain-ing well below their 2006 highs, a growing number of poten-tial buyers are getting the idea that this is a suitable time to become homeowners. Says Meyer: “We don’t expect to see a drop in home prices anytime soon.”c
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6 • A trAnsforming world
the SignalS are getting StrOnger: Stocks have entered the first
stretch of a period of growth that could last a decade or more, according to
analysts and researchers at BofA Merrill Lynch Global Research. Pullbacks,
corrections and moments of doubt are always part of any such protracted upward
trend, of course. But a series of powerful market-based shifts appear poised to
help drive equities through that turbulence.
a movement to stocks from bonds Market highs early in 2013
clearly demonstrated that at least some investors are bolstering stock portfolios.
Less certain is who is participating in this return to equities and how long
the surge will last. A recent report from BofA Merrill Lynch Global Research
expressed the idea that U.S. stocks are “in the early stages of a new secular bull
market.” The shift back to stocks has been described as a “great rotation” or a
“rebalancing,” in which investors gradually move away from the conservative,
bond-heavy allocations they’ve favored since the financial crisis and devote a
higher percentage of their assets to equities. Yet for now, according to a recent
BofA Merrill Lynch Global Research report, investors remain “structurally
underweight” when it comes to the proportion of stocks in their portfolios.
interest rates and inflation Persistently low interest rates are one
reason for the surge toward equities. Those looking primarily for income have
found themselves gravitating toward the higher risks and potential rewards of
dividend-paying stocks and high-yield corporate bonds. “If you keep interest
rates low for long enough,” Wolfe says, “it forces you into a higher risk profile,
whether or not that’s aligned with your goals.”
But low interest rates won’t last indefinitely. As prospects for the global
economy brighten, inflation will almost certainly follow, and the U.S. Federal
Reserve and other central banks around the world will inevitably force rates
higher as a counter measure. Timing rate increases is a delicate business,
Wolfe notes. Still, there’s no guarantee that central bankers will get it
right, increasing rates enough to forestall inflation without slowing growth
significantly. A serious policy mistake could send interest rates higher and bond
prices even lower.
2%The projected inflation rate for the next two years, according to BofA Merrill lynch global Research
gReAT MARkeT SHIfTS
A TrAnsforming World
There’s little doubt that inflation will increase to some degree. The Federal
Reserve’s policy of quantitative easing has pumped so much cash into the
system that a rise in prices is more or less inevitable. Michael Hartnett, chief
investment strategist at BofA Merrill Lynch Global Research, sees an inflection
point approaching—yet far from ending recent advances for equities, he believes
it “should prove very bullish for stocks.” Nor does he expect inflation to get out
of hand, and that could be more good news for stocks. “During the past 50 years,
when inflation has remained between 1% and 4%, that has marked a sweet spot
for equity returns compared with bonds,” Hartnett says.
Indeed, economists at BofA Merrill Lynch Global Research project inflation of
just 2% for the next two years, with price increases held in check by continuing
weakness in the labor market and continued “slack”—unused production capacity—
in the economy. “We’re a long way from inflation being detrimental to equity market
performance,” Subramanian agrees.
“We’re a long way from inflation being detrimental to equity market performance.”
Savita SubramanianHead of U.S. Equity and Quantitative Strategy, BofA Merrill Lynch Global Research
THe BegInnIng Of A TURnAROUnd?for several years, investors moved out of equity funds and into the perceived safety of bonds. in 2013, we are seeing the first signs of a reversal—with a growing number of people starting to believe in equities again.
Cumulative fund flows since 2006 in billions.
LO Equities (long only)All Bonds
'06 '07 '08 '09 '10 '11 '12 '13 '14
900
400
-100
-600
-$536 billion
$896 billion
Sources: BofA Merrill Lynch Global Research, EPFR Global
8 • A trAnsforming world
SOme Of tOday’S mOSt prOfOund long-term transformations involve
demographics, shifting alignments of global power and the often unintended
consequences of those changes. Much of what is occurring now is driven by the
economic growth of emerging markets.
the rising emerging market middle class According to some
forecasts, in less than 20 years, a majority of the world’s population will have
risen out of poverty. By 2030, even by conservative estimates, the number of
people worldwide defined as middle class will likely double to 2 billion. “This
is the largest demographic wave we’ve ever witnessed,” Hyzy says, “in terms of
both the sheer number of people heading into the middle class and also in the
collective spending power this group will have.”
Because a disproportionate amount of that middle-class expansion is taking
place in developing and frontier markets, those nations should account for an
even larger portion of global economic growth than they already do. Emerging
markets are now responsible for more than half of global gross domestic product
(GDP) growth and 40% of investment worldwide. According to the World Bank,
China alone could provide a third of the world’s economic growth by 2025.
This trend presents huge opportunities for certain kinds of companies in the
developed world. In particular, manufacturers of high-end, highly engineered
durable goods—including engines, turbines and medical devices—should see
increasing exports to emerging markets. “Our competitive ability to produce
things they need has never been better,” Hyzy says. But this boom in exports
may not extend to makers of lower-cost retail goods. Emerging market
consumers are more likely to turn to local companies for those products.
aging populations Many emerging markets are helped by comparatively
young populations of workers and consumers. In contrast, by 2030 the median
age in the wealthy countries that belong to the Organisation for Economic Co-
operation and Development is expected to jump to nearly 43, up from 38 in 2010.
Already, the median age has eclipsed 45 in Japan and Germany. In the U.S., where
the demographic swell of the aging baby-boomer generation could be fiscally
$1trillionThe projected value of the market for water-related industries by 2020
THe neW geOPOlITICS
A TrAnsforming World
destabilizing, the median age is 37—and within the next 17 years, 20% of the
U.S. population will be older than 65. Meanwhile, China’s aging population has
prompted public discussion of ending the nation’s one-child policy.
Relatively old populations put enormous demands on government health care
and pension systems, such as Japan’s and Germany’s. What’s more, says Wolfe,
“graying nations tend to be at a competitive disadvantage to youthful countries,
whose more vigorous, productive labor forces tend to generate faster economic
growth.” These younger countries include Indonesia and many nations in sub-
Saharan Africa. There are also more subtle disadvantages to having an older
population. By 2020, the U.S. is projected to have more than twice as many
workers over age 55 than those 24 and under. Notes Wolfe: “If that ratio doesn’t
change, within two decades we’re going to have a lot
of 25- and 35-year-olds who don’t have the level of
work experience, job skills or compensation as their
parents at the same age.” That could lead to reduced
tax revenues, lower consumer spending and a
potentially weaker economy.
resource sustainability Another consequence
of a global middle class that is ballooning and
growing richer is an inevitable rise in consumer
consumption. That will put unprecedented
strain on the planet’s resources, with
surging demand for food and water in
particular. Indeed, water scarcity is
already a global reality—more than
780 million people lack access to clean
drinking water, while 2.6 billion have
no access to proper sanitation. One
major source of stress on resources
involves changing diets: The higher the
household income, the more often people
“graying nations tend to be at a competitive disadvantage to youthful countries, whose labor forces tend to generate faster growth.”
Christopher J. WolfeChief Investment Officer, Private Banking and Investment Group, Merrill Lynch
www.ml.com/insights • 9
10 • A trAnsforming world
eat meat—and that requires more water. “It takes 15,500 liters of water to produce
a kilogram of beef. It takes 1,500 liters to produce a kilogram of grain,” notes
Sarbjit Nahal, equity strategist, Thematic Investing, at BofA Merrill Lynch Global
Research. “This puts increasing pressure on global food security and water security.”
If current trends continue, water demand will exceed water supply by 40%
within the next 20 years, by some estimates. And without efficiency gains, a
diminished freshwater supply could cut the forecast for 2050 global GDP almost
in half, Nahal adds.
For investors, however, increased demand for water could generate potent
investment opportunities. Water-related industries working to address such
it will double to $1 trillion by 2020,” he adds. One major source of growth will be
new technologies and infrastructure that make it more efficient and less costly to
treat and reuse water, both in the residential and industrial sectors. Meanwhile,
the demand for water and resource conservation will potentially benefit a
In need Of WATeRin theory, the world has sufficient water to meet human needs, but it is unevenly distributed.
Sources: Aquastat, BofA Merrill Lynch Global Research
783 million people lack access to clean drinking water.
1.2 billion people live in areas where water is physically scarce.
1.6 billion people face economic water shortage—where the infrastructure can’t provide a sufficient supply.
43% is distributed among the world’s 189 other major countries.
57% of the world’s freshwater resources are concentrated in 10 countries: Brazil, Russia, U.S., Canada, China, Colombia, Indonesia, Peru, India and Congo.
A TrAnsforming World
range of sectors and industries, including crop science and fertilizer producers,
engineering firms that design cutting-edge irrigation systems, manufacturers of
water-treatment equipment and producers of the next-generation of biofuels.
government austerity and central bank policy Amid the profound
changes playing out on today’s geopolitical stage, one source of influence
and power has risen to unaccustomed prominence. Central banks today have
a greater influence on financial markets than does any other single factor
or set of institutions—and hold more sway, arguably, even than national
governments. The U.S. Federal Reserve paved the path that many other central
banks around the world have followed by keeping interest rates near zero and
instituting large-scale bond-buying programs. Much the same has been done
in Europe, the U.K. and a handful of emerging market nations. Most recently,
Japan has started to pursue an extremely aggressive easing policy designed to
shock its economy from decades-long doldrums. The central bankers often act
much as governments have in the past, attempting to combat unemployment
and prop up economies and markets.
At the same time, a number of nations around the world have launched
austerity programs—including the U.S., with the automatic cuts that began in
2013 as a result of government sequestration. And they are doing so during
recessions or slow-growth periods that would normally be met with stimulus
spending. That’s certainly happening in Europe, which still faces a long road as
it attempts not only to repair government and bank balance sheets but also to
create fiscal and banking systems that can support sustainable growth.
But how long will a central banker–dominated world continue? Although
U.S. Federal Reserve officials have said they could keep interest rates low for an
additional two to three years, the influence that it and other central banks have
wielded since the beginning of the global economic crisis will eventually wane,
only to be replaced by other forces both expected and unforeseen. And so the central
challenge of charting and understanding a constantly shifting world will continue.
The good news is that the signals indicating how the world is changing
can be discerned. The even better news is that the extremes characterizing
the years during and just after the financial crisis are at last giving way to
something else—a period that will come with its share of serious risks and
problems, but that on the whole offers a great deal of promise.
“For a lot of understandable reasons, clients have been rooted in a defensive
posture—behaviorally, emotionally, financially,” Wolfe says. “But there’s a
new dynamism taking hold, both in the U.S. and globally, and that dynamism
means opportunity.” ■
in a world of accelerated change, being a disciplined investor means paying stricter attention to the markets.
www.ml.com/insights • 11
Unless otherwise indicated, statistics come from: OECD; National Intelligence Council’s Global Trends 2030 report; U.S. Energy Information Administration; International Energy Agency; U.S. Bureau of Labor Statistics; U.S. Census Bureau; BofA Merrill Lynch Global Research as of May 2013.
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