Market Review and Outlook
Review of March 2018
March was a disappointing month for investors, with volatility returning thanks largely to U.S-related political events.
A rapid turnover in key White House staff has unnerved investors, with the incomers in all instances being more hawkish than their predecessors on economic and foreign policy issues. Silicon Valley is being examined globally over accusations of deceitful behavior over how it uses customer data, with Facebook coming under intense scrutiny.
Meanwhile, fears of a trade war between the world’s two largest economies grew. President Trump announced 25% tariffs on 10 sectors that President Xi Jinping has identified as key to China overtaking the U.S economy. This was met with a reciprocal response from Beijing. In early April Trump, in turn, threatened to expand his original list.
The MSCI World index of developed stock markets was down 2.2% in dollar terms, and down 1.3% over the first quarter. In sterling terms, the same index was down 4.0% over the month and 4.9% over the quarter, the difference against the dollar numbers is explained by sterling’s relative strength against the greenback so far this year.
All major stock markets lost value. The MSCI UK index fell 2.1% in sterling terms, and is down 7.3% over the first quarter. Sterling’s strength contributed to weakness for large overseas currency earning stocks.
Sterling’s recent strength has been attributed to a transition deal agreed by Brexit negotiators with the E.U. This will mean that after formerly leaving the E.U in March 2019, Britain will effectively remain inside the organisation until December 2020, allowing time for companies and government bodies to prepare for the new business and regulatory environment.
The MSCI Emerging Markets index fell 2.0% in dollar terms, caught in the cross-fire of trade war rhetoric, but was up 1.2% over the quarter thanks to a strong beginning to the year.
The Barclays Global Aggregate index of investment-grade bonds was up 1.1% in dollar terms.
Nationwide reported U.K house price inflation in the year to March at 2.1%, down from 5% a year ago. Falling house prices are concentrated in London and pockets of the South East, while the Midlands, Wales and Northern Ireland saw the strongest gains over the first quarter.
Negative real wage growth, and a slowing economy, are affecting demand. Meanwhile mortgage rates are -slowly- rising, with the Bank of England reporting the highest average 2-year fixed mortgage rate last month since September 2016, at 2.4%.
Estimates of global GDP growth this year are in the region of 3.9%, which is at the strong end of the spectrum. Strong corporate earnings results are likely this year, which will support stock markets.
The U.S is likely to grow at around 3%, helped by the fiscal boost of tax cuts with a rise in tariffs and quotas on imports only marginally affecting GDP growth. The euro zone is forecast to grow at 2.5%, as the cyclical recovery continues, and Japan at 1.4% (a remarkable feat, given Japan’s shrinking population). China continues to grow at an annualised rate of around 6.6%, though worries over high levels of municipal, corporate and household debt persist.
The only likely disappointment this year is the U.K, where growth this year of 1.5% will equal that of Italy. This reflects the inter-connected problems of labour immobility, a dysfunctional housing market and low productivity growth. These issues have nothing to do with Brexit.
Strong global growth will feed through into good first quarter earnings growth. In the U.S, where Q1 results begin to be published in mid-April, the consensus estimate for earnings growth in the S&P 500 I.T sector is 21.9%, which should give stability to the currently beleaguered sector. The estimate for non-tech earnings on the S&P 500 is 17.2%.
Central banks around the world remain cautious about tightening monetary policy too soon, which is also positive for stock markets. Three more hikes from the Fed this year will lift its policy rate to 2.5%, which will be only 0.2% over the current CPI inflation rate – so still effectively zero in real terms.
The Bank of England may raise rates by 25bp to 0.75% in May, but given current CPI inflation of 2.6% that still represents a chunky negative real interest rate. Mortgage rates are set to rise at least in tandem with the Bank’s key policy rate, though given the glacial pace of rate hikes that the market is expecting over the coming few years, mortgage holders will not be taken by surprise.
The Trump administration appears to be engaging in bluster in order to force China to enhance intellectual property rights for inward investors, make it generally easier for U.S companies to invest in China, and to reduce to an agreed level the $375bn trade deficit that the U.S runs with China.
China may eventually negotiate. Not only is it the country running the large surplus, but that surplus is also represents a larger share of China’s GDP than the corresponding deficit does for the U.S. But the U.S must be careful with what it wishes for, given that much of China’s trade surplus is recycled into Treasuries, and Trump’s tax cuts means there will be much more supply of these that will need purchasers.
Faced with increased market volatility, the solution is always to ensure a broad-based, multi-asset approach to investment. This diversified approach means that not everything in the portfolio will move in the same direction during periods of market stress. Government bonds, for instance, often rally on fears of recession but stock markets will weaken on the same news.
We should keep an eye on politics over the coming months, in case a major event that will have long-term repercussions on financial markets does occur. But be careful about over-responding to news stimuli. So long as the economic fundamentals remain sound, good advice often amounts to a two-word instruction: stay put.
The content of this publication is for information purposes and should not be treated as a forecast, research or advice to buy or sell any particular investment or to adopt any investment strategy. It does not provide personal advice based on an assessment of your own circumstances. Any views expressed are based on information received from a variety of sources which we believe to be reliable, but are not guaranteed as to accuracy or completeness. Any expressions of opinion are subject to change without notice.