Monthly Note - December
The UK has urged the EU to “stay calm” in the ever-escalating dispute over post-Brexit Northern Ireland. Concerns remain that the spat could turn into a full-scale trade war, with prime minister Boris Johnson threatening to pull out of parts of the withdrawal agreement and the European Union threatening to retaliate to the fullest of its ability.
The European Central Bank could stop its bond buying programme as early as next September if inflation looks to have sustainably returned to the official target, according to one member of the governing council. ECB officials are meeting in December to lay out their post-pandemic policy path. Whilst President Christine Lagarde has signalled pandemic asset purchases will end in March as planned, there remains no consensus on what will happen to the ECB’s conventional QE programme.
US consumer prices rose last month at the fastest annual pace since 1990, a reading that shook financial markets that to now have been told by central bankers not to worry about inflation. The consumer price index (CPI) jumped 6.2% in October from a year ago, exceeding all estimates. Higher prices for energy, shelter, food, and vehicles were the main drivers of the increase. With inflation picking up and at such pace, the Federal Reserve will begin to feel the pressure of rate rises and quantitative easing tapering before long.
The macro backdrop remains supportive for risk assets, such as equities, which will benefit from further expanding global economic growth. 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 given the recent pick-up in the EU’s vaccine programme. Earnings growth has been strong during this period, as has stock market performance, however we see little catalysts for further growth and as such have moved to an underweight in European equities.
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. 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 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 opinions expressed in this update are those of A&J Wealth Management Limited only, as at 2nd December 2021, and are subject to change.
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