5th May 2022
In a surprise to the investment world, US GDP unexpectedly declined. According to the Commerce Department’s advance estimates (which will be revised), the US economy contracted at an annualised rate of 1.4% in the first quarter of this year, well below consensus expectations of somewhere near a 1% expansion. Another negative quarter will mean the US is in what’s called a ‘technical recession’ meaning two negative quarters of GDP. There were also positives in the data, however, as consumer spending was up 2.7% and business investment rose by 7.3%.
The UK continues to struggle with the cost-of-living crisis, with inflation rising still and taxes increasing at the same time. UK house prices rose by 12.1% in the past year, though the rate of increase is set to slow, with budget likely to be squeezed in the coming months. Elections this month will be a big test for the government struggling in the wake of “party-gate”, although it is normal for the incumbent government to perform poorly in local elections.
The Ukraine-Russia war is still affecting the macroeconomic dynamics of the world to an extent not seen in decades. Ukraine is a major exporter of agricultural produce to the world, and with exports from Ukraine drying up, food prices are surging, and the cost of fertiliser continues to hit new highs, forcing farmers to experiment with alternative measures. The longer the war continues, the more desperate Putin will become, and the world watches for clues as to whether he will succumb to the pressure of the economic sanctions imposed on the Russian economy, or whether he will escalate his war further.
The macro backdrop remains supportive for risk assets, albeit there are more risks emerging. Equities will continue to benefit from further expanding global economic growth and higher earnings. Some value equities offer more immediate upside over their growth peers, as they tend to benefit most from strong recoveries after recession. We are taking a more cautious approach to portfolio positioning for a possible resurgence in inflation. We still like selective growth stocks where there remains true innovation and potential for change, especially recent trends in consumer behaviour being driven by the pandemic. Fixed income remains unattractive given record low (and negative) real yields and the thin spread between sovereigns and corporates offering little in the way of reward for risk. Bonds remain an important diversifier in our portfolios, but given current yields the return profile looks unappealing, with downside risk in long-dated government bonds extremely elevated given the outlook for interest rates and recent commentary from major investment banks regarding monetary tightening. Low duration bonds therefore look the more appealing investment, along with inflation-linked bonds which offer some protection to rising inflation. We also hold an allocation to cash to offset some of this fixed income risk.
We expect the UK to continue to recover well from the pandemic as the widely successful vaccine rollout and ending of pandemic restrictions in England boosts economic activity. The UK has some of the highest forecasted GDP growth in the world which should feed through to corporate profits which we expect to rise. Valuations in the UK remain extremely attractive given the outlook for the economy.
There is good value to be found in European equities, particularly after the Russia-Ukraine was hit equities more recently. Earnings growth has been strong during this period, as has stock market performance, and with the ECB so far behind the inflation curve there represents good opportunities in selective European value shares.
The US represents poorer value relative to the rest of the world due to the high proportion of tech companies that currently command a multiple far in excess of the broader market, however it also has the best long-term earnings growth and some of the most outstanding quality companies, as well as the most innovative. In times of global stress, the US also tends to act as a safe haven investment, which props up markets. We believe the US will remain an attractive investment option, but with some obvious headwinds making us more cautious. President Biden has made no secret of his desire to increase tax rates, and the Federal Reserve have been clear they will not be getting any more accommodative.
We believe Japan to be an extremely poor environment for equity performance. The Japanese economy is predicted to grow at the slowest pace of all regions, in addition with a declining and ageing population, the prospect of future economic expansion looks unlikely. Thus, we expect poor equity performance from Japan.
Asia Pacific & Emerging Markets
Asia Pacific and Emerging Markets are predicted to see exceptionally strong GDP growth over the next year, but are struggling with the pandemic, particularly those countries who are not so able to distribute vaccinations to their populations. We remain concerned at the decreasing Chinese stimulus, together with regulatory crackdowns, investments in China require careful monitoring. However, the recent selloff in Chinese markets looks overdone given the longer-term outlook for the economy, and we remain positive on the emerging markets growth story in the long-term, and thus are comfortable maintaining an overweight position. The more recent positive remarks from the Chinese government is positive, but must be taken with a pinch of salt. We currently like frontier markets as a more attractive investment option within the emerging markets universe.
The opinions expressed in this update are those of A&J Wealth Management Limited only, as at 5th May 2022, and are subject to change.
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