Commentary on January 2021
A strong start to the year, which saw UK shares gain 6%, ended the month with most stock-markets in negative territory as the initial euphoria surrounding vaccine rollouts lost its edge. In sterling terms, UK indices fell by just under 1%, Japan and the US by 1.5% and Europe by 2%. Emerging markets and Asian shares bucked the trend with gains of 2.6% and 1.4% respectively. Fixed interest bonds ranged from small positives for lower-quality bonds to losses of 1-2% in government bonds.
The dichotomy in economic data partly reflected the differing responses to the pandemic. In America, where lock-down measures were less prevalent, Purchasing Manager Indices pointed to expanding economic activity, reflected in strong manufacturing data and a resurgent housing market. A record number of companies beat analysts’ estimates for Q4 earnings and overall were expected to show positive growth on pre-pandemic levels. By contrast, the more stringent lock-down measures across Europe led to a decline in consumer confidence and activity, raising fears of a double-dip recession.
Ex Chair of the Federal Reserve, but now newly appointed Treasury Secretary, Janet Yellen, said that ‘right now with rates so low we need to act big’, paving the way for President Biden to press ahead with his $1.9 trillion package. Republicans disagreed, countering with a $0.9 trillion package and making the valid point that perhaps not all Americans were in need of the proposed $1400 handout- negotiations continue. Meanwhile, Yellen’s successor at the Fed’, Chairman Powell, re-assured investors that the Board were in no rush to exit their asset-purchase programme.
Addressing the state of the economy in its Quarterly Inflation Report, the Bank of England felt that growth in the final quarter of 2020 would be slightly positive, enabling it to narrowly miss another technical recession. The Bank expected growth in the region of 5% for the year 2021 after a fall of around 4% in the first quarter severely hampered by lock-down restrictions. Referring to the prospect of negative interest rates, the Bank warned that commercial banks would need at least 6-months to prepare for such an event, but added that this didn’t mean that it would necessarily happen. Investors focussed on the latter point with the rates market predicting no such move before next February.
In Euroland, the former head of the European Central Bank, Mario Draghi, was invited to form yet another new unity government in Italy. Across in Germany, the Christian Democratic Union voted Armin Laschet as their new leader; he’s thought to be a safe but uninspiring choice and might struggle to succeed Angela Merkel when she steps down as Chancellor in September.
Near-term sentiment will continue to be determined by the pandemic, though the narrative has moved from the spread of the virus to the speed of the vaccine roll-out. Good progress has been made by the UK and US in particular, though the differing attitudes to lock-down restrictions have led to a gulf in economic activity and stock-market performance between the two countries.
At the time of writing, US stock-markets have already reversed January’s falls and recorded fresh all-time highs, where-as the bounce in the UK and Europe has been muted. In valuation terms this re-enforces the relative cheapness of the UK market and, by contrast, the dearness of many US shares.
There is much debate over whether the future offers reflation or deflation, with views hinging on how the global economy emerges from variations of imposed lock-down. One line of debate focuses on the delayed fallout once government support schemes are withdrawn, allowing many businesses to fail and leading to rising unemployment. On the other hand, monetary stimulus has surpassed all historic measures and it would be foolish to rule out the possibility that this leads to higher future inflation.
Governments and central banks are likely to continue to over-indulge in stimulus measures and are on record as being prepared to tolerate a rise in prices in order to kick-start economies. Whether bond investors will be as tolerant is a different matter and we have started to see a small rise in yields on longer-dated bonds. If this trait continues, leading to a steepening of the yield-curve, then this will favour many ‘value’ shares, and banks in particular.
On current valuations, bond and equity markets remain vulnerable to set-backs; the question remains, with short-term interest rates at record lows and possibly falling further, how far will markets need to fall to attract fresh money looking for an income return?
How are we currently positioned?
With markets pricing in a very optimistic future, we are considering taking a bit of overseas risk out of the portfolios.
We remain underweight fixed interest bonds and see little value at close to record low yields-90% of global government debt yields less than 1%.
We are holding a mix of value and growth stocks but have sought to minimize exposure to US listed FANGS, where valuations have become excessive.
Our portfolios diversify risk by investing in a wide range of assets using actively managed funds with sound investment processes. Some examples of these ‘alternative’ assets are funds invested in gold & silver, infrastructure, agriculture and absolute return strategies.