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Invesco: Emerging markets, China, and the road ahead

Please see below for one of Invesco’s latest investment articles, received by us yesterday 07/07/2021:

A year and a half after the first reported cases of a new SARS-like virus in Wuhan, China, we can now look back with greater clarity on a period of some of the most dramatic volatility since the Asian and global financial crises. Here, we assess what this volatility and the associated policy responses have meant for China and emerging markets and plot a dotted line for the road ahead.

Looking up after locking down

At the time the pandemic hit, the unresolved US-China trade war loomed large and global manufacturing was in the early stages of restructuring to accommodate new trade patterns. Despite this, China stood out from other countries in terms of its fiscal, monetary and industrial policy response.

Beijing’s policy decisions focused on maintaining domestic productivity and employment with as little disruption on the demand side as possible. Manufacturers were given liberal access to capital to maintain operations, and refunds on social security tax and unemployment insurance incentivised businesses to retain staff without layoffs.

At the same time, the central bank lowered its reserve requirements and removed blocks on certain loan extensions and renewals. Investments were made in traditional infrastructure projects like housing and transportation, and spending on the nationwide 5G network was accelerated.

As a result, China moved from having a GDP contraction of almost 6% for the first quarter of 2020 to being the only major world economy to print a positive GDP growth number for the year.

A dolorous relationship?

While China’s growth in 2020 is unmatched, the road ahead is not unwinding, particularly when we consider the impact that US policy decisions could have on the US dollar.

The growth of the US fiscal balance sheet in 2020 (accommodated via easy monetary policy) appears to have stimulated real inflation in the US economy – an outcome which has led to talk of tightening. If asset purchase programmes are tapered or rates increased, the likely outcome is a stronger dollar.

Historically, a strong dollar has been negative for emerging markets, as it increases the burden of US dollar-denominated debt. This is less of a factor today than it was prior to the Asian and global financial crises. However, the fact remains that this could dampen growth prospects in some emerging market economies.

Commodities buck the trend

In spite of the observation noted above, it is likely that a stronger dollar will benefit firms selling commodities into US dollar-denominated markets, as long as there is global demand for these products. This factors into the dramatic outperformance we have seen from steelmakers, iron miners, commodity chemical companies, and even coal producers.

The demand behind this outperformance is not part of the same super-cycle seen after China’s admission to the World Trade Organisation, when investment in capacity and infrastructure facilitated the country’s transition to the so-called ‘world’s factory’.

Even when we account for the fact that some of this capacity has moved to other countries in the context of trade realignment, the overall demand for commodity materials is not in the same league as two decades ago.

Instead of a broad, sustainable growth in demand, we are seeing a short-term build-up of inventories that reflects ‘new normal’ uncertainties about tariffs and pandemic lockdowns. This goes all the way through the product cycle, from raw materials to finished goods.

Although these dynamics are almost certainly near-term and should subside in the medium-term, they do attract speculation that disrupts the market.

The road ahead

What does this disruption mean for emerging markets? In the absence of significant inflows, there is a conservation of capital within the asset class. The sharp and transitory shifts described above get funded by parts of the market that have outperformed — in this case growth companies, in particular those in China. In this sense, China has been a victim of its own success as far as its response to the pandemic is concerned, as some investors look to lock-in potential gains.

That said, in our opinion, these sharp transitions do not signify a change in the long-term view for emerging markets. The types of firms that create and capture value for shareholders remain the same.

Even with an ageing population, China remains a large economy with an outlook for sustained, high-speed growth. The growing middle class offers opportunities for investment in education, real estate services, and world-leading innovative technology platforms that facilitate consumption.

It is worth adding that the size and scale of the domestic market should make it less susceptible to external volatility than other markets in the asset class.

What these transitions offer, then, is the potential to invest in the best long-term opportunities at more attractive valuations than normal market conditions afford. 

Please continue to utilise these blogs and expert insights to keep your own holistic view of the market up to date.

Keep safe and well.

Paul Green DipFA

08/07/2021

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Legal and General: Our Asset Allocation Team’s Key Beliefs 28/06/2021

Please see below for Legal & General’s latest ‘Asset Allocation Team’s Key Beliefs’ article, received by us late yesterday 28/06/2021:

There are still a few weeks until Q2 earnings season, but early indications point to mainly positive news when events kick off properly in July. In this week’s Key Beliefs, we also discuss the ‘meme’ stock phenomenon and whether the 1960s pose a historical parallel for inflation today.

We’re in the middle of pre-announcement season for corporate results. While this is always very anecdotal in nature, company comments have so far had a generally positive tone and, perhaps even more tellingly, there has been an absence of any high-profile negative pre-announcements. Results from early reporters, companies with different quarter ends, have had a similar positive tone.

Another positive indicator is that earnings revision ratios have stayed at exceptionally high levels. There are always fewer forecast changes by analysts in between earnings seasons, but from the data that have come in, there have been far more upward than downward revisions. In May and the first few weeks of June, more than three quarters of revisions in the US were to the upside, a figure only matched in the immediate aftermath of recessions and after the corporate tax cut at the end of 2017.

All of this bodes well for the upcoming earnings season and adds confidence to the view that we’ll see another round of significant upgrades to analyst forecasts in the summer. And of course, significant analyst upgrades either put upward pressure on share prices or downward pressure on valuation multiples. We believe the truth will likely lie somewhere in between and continue the pattern of equities grinding higher at a slower pace than earnings estimates, which gradually deflates the high PE (price to earnings) ratios of the immediate recession aftermath.

Retail is here to stay

Retail investors and ‘meme’ stocks have been centre stage again in equity markets in recent weeks. Three things come to mind on the topic from a macro perspective.

First, the extreme moves continue to be limited to a handful of stocks. There are still no obvious signs of the volatility in affected stocks spilling over into the wider market. If you look closely enough, you can see the gyrations of Gamestop* and AMC* reflected in the relative intraday performance of US small cap indices like the Russell 2000. But the S&P 500 put together a long string of daily moves smaller than 1% in the last period of meme stock volatility.

Second, this most recent rally in retail favourites has been far weaker than what we saw in spring. This applies both to the magnitude of the outperformance of the stocks involved and to retail trading volumes. The share of TRF volumes (seen as a proxy for retail activity) of overall US volumes has stayed in the low-mid 40% range, which is far above pre-2020 levels, but a good bit below the nearly 50% mark regularly reached earlier this year. Overall, it’s still fair to say that the froth that was apparent in several retail-driven niches of the market in spring is much less of a concern today. Indeed, SPAC (‘special purpose acquisition company’) activity and prices have dropped a lot, as have prices in the digital asset sphere, like bitcoin.

Finally, if retail is a growing part of equity flows, then we are still in the early part of this story. The activity has so far been concentrated in Robinhood-type investors, who tend to be younger and less wealthy than the traditional retail investor base. US households own just under a third of US equities, but the top 10% of households own almost all of that, according to Goldman Sachs. Private client flow data from brokers show net purchases of equities this year, but their magnitude still pales into insignificance when compared with the previous decade’s net selling. So far, the increase in retail activity appears to have been driven by the smallest section of retail investors. The private client flow data suggest activity is spreading to traditional retail investors, but from today’s perspective we believe this theme remains much more of an upside than a downside risk.

Sounds of the ‘60s

In the mid-1960s, after years of subdued core inflation, there was a sudden increase which began a period of prices ratcheting higher. Unemployment fell through the first part of the decade, but as soon as it reached 4%, both wages and inflation moved up significantly. This suggested the economy was overheating and unemployment had probably breached the NAIRU a couple of years earlier. Indeed, it took a recession in 1970 to halt wage and price pressures temporarily, before the oil-shock induced big inflation of the 1970s.

The simultaneous increase in wages and inflation is a finding consistent with Ram’s econometric work, which shows that neither wages nor prices tend to lead one another; the wage and inflation process seems to happen simultaneously. So, if we wait for wages to move materially higher, we could be too late in spotting the inflation outbreak.

But there were some unique features of the ‘60s:

  • The Vietnam war played a crucial role. US Federal spending (entirely on defence) shot up by over 1% of GDP from mid-1965 to early 1967. The deployment of over 300,000 more troops served to tighten the domestic labour market further. This episode shows it is not a good idea to add stimulus to an economy already at full employment. The stimulus today has been in response to a large amount of slack, with unemployment still relatively high and participation low. We expect the current labour market demand and supply imbalances to be resolved later this year, but there are some risks if Congress passes a large deficit-funded infrastructure package
  • Unionisation exacerbated the wage-price spiral. The labour market appears much more flexible today, aided by an increasing number of ‘digital nomads’ or ‘work anywhere’ jobs
  • In the ‘60s, the Fed had far less sophisticated understanding of the role of inflation expectations (there was no TIPS market) and was less independent. We are confident that the central bank will take appropriate action, should the current wave of inflation not prove transitory
  • The increase in prices was broad-based. This is a clear difference from today, where the median CPI is still behaving well
  • In 1966, England last won a major football tournament (though I’m still convinced that the ball never crossed the line on England’s winning goal). This time round, however, we’ll need to wait a few more days to know whether it’s a unique feature of the 1960s or not…

Please continue to utilise these blogs and expert insights to keep your own holistic view of the market up to date.

Keep safe and well.

Paul Green DipFA

29/06/2021

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Invesco Investment Intelligence updates – 14/06/2021

Please see below for one of Invesco’s latest Investment Intelligence Updates, received by us yesterday 14/06/2021:

After April’s US CPI upside surprise, last week’s May reading was eagerly anticipated, albeit with a degree of trepidation. It didn’t disappoint. Headline CPI came in at 0.6%mom and 5%yoy, its highest level since 2008 (inflation peaked at 5.6%yoy then), while Core CPI rose even more at 0.7%mom, leaving it at 3.8%yoy, its highest since 1993. Both were 30bp above consensus expectations on a year-on-year basis. Strength was largely led by what are seen as “transitory” components, such as used cars (7.3%), car and truck rental (12.1%) and airfares (7%), even if there are other elements of consumer prices, such as shelter costs, that show more sustainable price pressures. Notwithstanding that we are probably close or at peak inflation as the impact of the lockdown starts to fall out of the calculation. How quickly and how far it will drop will be a function of whether rising costs, corporate pricing power and rising wages in a stimulus fuelled economy translate into more persistent inflation. For now, the Federal Reserve and increasing numbers of investors, witness a 10yr UST that is at its lowest level since early March, appear unconcerned about this risk. Time will tell whether this complacency is warranted or not, but it clearly remains a significant tail risk for financial markets.

Global equity markets finished the week at a fresh all-time high, with a rise of 0.6% for MSCI ACWI. It is now up 12.7% YTD. DM (0.6%) led EM (flat), with both the US and Europe ex UK hitting new all-time highs, up 13.8% and 16.7% respectively YTD, with the latter the strongest major market of the week (1.2%). Small Caps (1.3%) outperformed again, hitting new all-time highs, with DM (1.3%) ahead of EM (1.1%). It was a rare week of Tech and tech-related sector outperformance, led by IT (1.6%). HealthCare (2.8%) was the best performing sector. Real Estate also had a good week (2.1%) and is now the third best performing sector YTD, up 18.8%, behind Energy and Financials. Lower bond yields weighed on Financial sector performance, while commodity sectors also lagged. Sector performance underpinned a strong relative performance week for Growth (1.4%) versus Value (-0.3%), while Quality (1%) had a good week too. UK equities were slightly ahead (All Share 0.9%) on the back of a good week for large caps (FTSE 100 0.9%) on strength in HealthCare, Telecoms and Energy.

Government bonds had a strong week with yields pushed lower by the belief that US inflationary pressures are transitory and a dovish stance at the latest ECB meeting. 10yr USTs and Gilts fell 10bp and 8bp respectively, taking them to their lowest levels since early March. They are now down 28bp and 18bp below their YTD highs, but are still higher than their starting level, hence the negative returns YTD from the asset class. Bunds and BTPs fell 6bp and 12bp. The better tone in government bond markets supported a good week for credit markets, where IG outperformed HY globally. IG yields fell 5bp with spreads narrowing by 2bp. The latter at 91bp are within touching distance of their post-GFC low (87bp). In HY a decline of 5bp in yields took them to all-time record lows (4.54%), but spreads at 353bp remain somewhat above their post-GFC lows (311bp).

The US$ edged higher over the week with the US Dollar Index up 0.5%, its third weekly gain, leaving it up 0.7% for the year. The Euro and £ were down -0.4% and -0.3% respectively.

Commodities overall were down slightly on the week with a -0.6% loss for the Bloomberg Commodity Spot Index, which is up just under 22% YTD. Brent, up 0.9%, hit its highest level ($73) in two years. In its latest monthly report, the IEA said that OPEC+ would need to boost output to meet demand that is set to recover to pre-pandemic levels by the end of 2022. Copper was up marginally too, 0.4% on the week, after a late rally on Friday as investors bet that China’s sales of strategic reserves would have a muted impact on demand. Gold edged lower (-0.6%) as it continued to consolidate around the $1900 level.

Andy Haldane, the Bank of England’s outgoing Chief Economist, described the UK’s housing market as being “on fire” last week. Recent House Price indices from the Halifax and Nationwide, the two biggest mortgage lenders, showed annual price growth of 9.6%yoy and 10.9%yoy respectively. These were the fastest rates of growth since 2007 and 2014 respectively and a lot faster than the rates of growth (3% and 3.5% CAGR respectively) seen in the decade leading up to the pandemic, described by another senior BoE official as housing’s “Quiet Decade”. And last Thursday’s RICS House Price Net Balance reading, which measures the breadth rather than magnitude of price falls or rises over the previous 3 months, hit +83% – its highest level since the housing boom of the late 1980s. Regionally it hit +100% in the N, NW and SW of England and Wales, while London was the standout laggard at just +46%.

All in all, a very uncharacteristic housing market, which typically fall and only recover slowly in severe economic contractions. This time around a combination of factors have delivered a very different market outturn: easing of lockdown restrictions have released pent-up demand. The government has supported the market through the Stamp Duty holiday (due to finish at the end of September), although it may not be as big a motivator for moving as some think. A recent survey by Rightmove shows that it is not the biggest motivation, with only 4% saying that they would abandon purchase plans if they missed the Stamp Duty deadline. Mortgage availability has improved, particularly for first-time buyers. Borrowing costs are low. Excess savings built up during the pandemic have provided cash for larger deposits. Finally, lifestyle factors (more space, relocating from large metropolitan areas) are at play. This has created an excess of demand over supply (the gap between new buyer enquiries and new instructions in the RICS survey was the widest since 2013) and, as with any commodity, when these imbalances occur prices tend to rise.

So, will the market remain “on fire”? In the RICS survey a national net balance of +45% envisage higher prices in the short-term (3m), while a greater +64% see them higher over 12m, although prices are only seen rising between 2-3%. Halifax and Nationwide also see the potential for further price rises in the coming months as most of the current demand drivers remain in place against a backdrop of a continued shortage of properties for sale. So, the fire may rage for a bit longer. Longer-term the RICS survey sees house prices appreciating by between 4-5% over the next 5 years. A still robust market, but certainly not to the same degree that we’re seeing currently. That would be a positive outturn for the economy. 

Key economic data in the week ahead

The Federal Reserve and Bank of Japan meet this week to set their respective policy rates. Inflation data is a feature in both Japan and the UK this week, with the UK also publishing its latest employment report. In China economic activity for May is also released. Finally, there will be a number of post-G7 meetings in Europe next week, which may stir some interest, particularly those between the US and EU and Biden’s meeting with Putin.

In the US Retail Sales data for May is released on Tuesday. A decline of -0.6%mom is expected after no growth the previous month as the impact of pandemic-relief cheques faded. On Wednesday the Federal Reserve’s FOMC meets. While no change in policy is expected, market focus will be on its update of its economic projections, particularly any changes to the rates dot plot, employment and inflation projections (after two strong prints recently), as well as any clues on the future tapering of QE. Last week’s Initial Jobless Claims fell to a new pandemic low of 376k as the number of job openings has surged. On Thursday a further decline to 360k is expected.

There are a number of important data points this week in the UK. April’s Unemployment figures are published on Tuesday. A small decline to 4.7% from 4.8% is forecast. This compares to a recent high of 5.1% and 3.8% before the pandemic struck. On Wednesday May’s CPI will come out. Headline inflation is estimated to have increased 0.3%mom to 1.8%yoy mainly due to higher fuel prices. This will take inflation back to the levels seen immediately pre-pandemic. Core is also expected higher at 1.5%yoy from 1.3%yoy. So, both measures remain below the Bank of England’s 2% target. Retail Sales for May are released on Friday. After the non-essential shops re-opening bounce last month, a more sedate 1.6%mom is expected this month for sales ex Auto Fuel.

In Japan the Bank of Japan meets on Friday and is expected to keep its policy unchanged. CPI on the same day is forecast to have increased in May, but the Headline rate is still expected to be negative at -0.2%yoy, while Core is seen as flat, having fallen 0.1%yoy in April.

Chinese activity data for May is released on Wednesday. Industrial Production is forecast to have risen 9.2%yoy, slightly lower than 9.8%yoy in April. Retail Sales are also expected lower, but still strong at 14%yoy compared to 17.7%yoy in April. Fixed Asset Investment is seen up 17%yoy from 19.9%yoy last month.

There is no significant data coming from the EZ this week.

Please continue to utilise these blogs and expert insights to keep your own holistic view of the market up to date.

Keep safe and well.

Paul Green DipFA

14/06/2021

Team No Comments

Weekly Market Commentary | US Consumer Price Index data release to be closely watched by markets

Please see below for Brooks MacDonald’s latest market update, received by us yesterday evening 07/06/2021:

  • Last Friday’s US jobs report missed expectations but the figures were welcomed by markets
  • With the EU vaccination programme progressing well, this week’s European Central Bank (ECB) meeting will be closely watched
  • US Consumer Price Index (CPI) on Thursday is arguably the most important data release so far in 2021

Last Friday’s US jobs report missed expectations but the figures were welcomed by markets

Equities ended the week strongly, despite the US jobs report coming in behind expectations. Growth equities were a particular beneficiary after the non-farm payroll report was released on Friday.

The May US employment report missed expectations but only mildly compared to the miss in April’s figures. May saw c.559,000 new jobs created on a headline basis and c.496,000 of those within the private sector1. Describing the gain, Federal Reserve Bank of Cleveland President Mester said that while the figures were positive, they fell short of substantial further progress which is the bar set by the Federal Reserve to consider tapering2. Beneath the numbers, the labour force participation rate fell, which may suggest that there is some hesitancy to return to workplaces or that stimulus measures have reduced the need to return to the workforce short term. The jobs report saw US 10-year Treasury yields fall as market participants priced in a slightly slower than expected recovery, which is showing fewer signs of acute labour shortages. It is those labour shortages that are particularly relevant given their role in driving supply side inflation as employers compete for workers.

With the EU vaccination programme progressing well, this week’s European Central Bank (ECB) meeting will be closely watched

This week’s main event is undoubtedly the US CPI number on Thursday, and this arguably represents the most important data release so far in 2021. Consensus estimates point to a 0.4% month-on-month increase in both the headline and core inflation rate, which would mean that core US inflation would move to 3.4% year-on-year3. This would be the highest level of core inflation since 19934. Of course, the massive reduction in economic activity last year skews these figures and this release, alongside June’s, sees a substantial uptick in inflation due to this ‘base effect’ alone. Thursday also sees the ECB’s meeting where the central bank, under less inflation pressure than the US, is likely to continue with its faster pace of asset purchases, for the short term at least. As the EU vaccination drive continues to gain momentum, an exit of this pandemic quantitative easing programme may be on the cards but probably not until the last quarter of this year.

US Consumer Price Index (CPI) on Thursday is arguably the most important data release so far in 2021

The US CPI number will be very closely watched by markets, not only for the core inflation figure but also what is driving the subcomponents. Last month, used cars were an outsized contributor to the figures but investors will be looking for signs of a broader increase in price pressures.

Please continue to utilise these blogs and expert insights to keep your own holistic view of the market up to date.

Keep safe and well

Paul Green DipFA

08/06/2021

Team No Comments

Equities slide on rising Covid-19 infections

Please see below for Brewin Dolphin’s latest markets in a minute article, received by us yesterday evening 27/04/2021:

Most major stock markets declined last week on fears that rising Covid-19 infections could hinder economic recovery.

With Europe firmly in the grip of the so-called ‘third wave’, the pan-European STOXX 600 ended the week down 0.8%, while Germany’s Dax fell 1.2% and France’s CAC 40 declined 0.5%. The UK’s FTSE 100 slid 1.2%, with positive economic data failing to lift investors’ spirits.

Rising infections also weighed on Japan’s Nikkei, which dropped 2.2% after the country reported nationwide daily infections of more than 5,000 for the first time in three months. This led to another state of emergency being declared in several prefectures.

US stock markets posted small declines last week after President Joe Biden announced proposals to nearly double taxes on capital gains for those earning more than $1m a year. In contrast, Chinese stock markets posted solid gains following strong inflows from Hong Kong via the Stock Connect trading programme.

Last week’s markets performance*

  • FTSE 100: -1.2%
  • S&P 500: -0.1%
  • Dow: -0.5%
  • Nasdaq: -0.3%
  • Dax: -1.2%
  • Hang Seng: +0.4%
  • Shanghai Composite: +1.4%
  • Nikkei: -2.2%

* Data from close on Friday 16 April to close of business on Friday 23 April.

European stocks gain on travel plans

UK and European stocks rose on Monday after European Commission president Ursula von der Leyen told the New York Times that inoculated Americans will be able to visit the EU in the summer. The STOXX 600 added 0.3% and the FTSE rose 0.4%, with shares in easyJet, Ryanair and TUI all posting strong gains.

In the US, the Dow slipped 0.2% whereas the S&P 500 and the Nasdaq rose 0.2% and 0.9%, respectively. Tesla started a busy week of corporate earnings statements, reporting a 74% surge in quarterly revenues. Apple, Microsoft, Amazon, Alphabet, Boeing and Ford are all due to release first quarter results this week.

HSBC and BP were in focus at the start of trading on Tuesday, with the former posting a 79% rise in first quarter pre-tax profit, and the latter receiving an earnings bump from higher oil prices and a surge in revenue from natural gas trading. The FTSE 100 opened flat ahead of the US Federal Reserve’s two-day policy meeting.

UK economy shows signs of rebound

Last week saw the release of several pieces of economic data that suggest the UK economy is starting to rebound from the Covid-19 crisis. Friday’s IHS Markit/CIPS flash composite PMI showed a strong revival in private sector output following the downturn seen at the start of 2021. The index rose to 60.0 in April from 56.4 in March – the strongest overall rise in private sector output since November 2013.

For the first time since the pandemic began, service activity growth outperformed manufacturing production growth. The service sub-index rose from 56.3 to 60.1, marking the fastest pace of expansion for more than sixand-a-half years. The manufacturing sub-index increased from 58.9 to 60.7, the highest since July 1994.

Separate data from the Office for National Statistics (ONS) showed UK retail sales volumes continued to recover in March, increasing by 5.4% from the previous month. This reflected the easing of Covid-19 restrictions on consumer spending. Sales were 1.6% higher than in February 2020 – the month before the pandemic struck.

UK retail sales surge 5.4% in March

Non-food stores provided the largest positive contribution to the monthly growth, with increases of 17.5% and 13.4% in clothing stores and other non-food stores, respectively. Fuel retailers reported monthly growth of 11.1%.

However, the ONS said retail sales for the quarter were subdued overall. In the three months to March, sales fell by 5.8% when compared with the previous three months because of tighter lockdown restrictions.

US economy moving to post-pandemic state

Last week’s flurry of US corporate earnings reports suggest the economy is starting to transition to life after the pandemic. Most notably, Netflix announced it had added just under four million subscribers in the first quarter – missing its forecast of six million. The company said it expected one million paid net additions for the second quarter – versus ten million in the second quarter of 2020, when it benefitted from a surge in demand at the beginning of the crisis.

Elsewhere, figures showed US weekly jobless claims fell to their lowest level since the onset of the pandemic, declining by 39,000 to 547,000 in the week ending 17 April. This was far better than the 617,000 figure. forecast by analysts.

US existing home sales declined by 3.7% between February and March to a seven-month low, largely because of the acute shortage of houses on the market. Compared with a year ago, when home sales first started to fall when the pandemic hit, sales were 12.3% higher. Limited supply and strong demand pushed the median existing home sales price by a record-breaking annual pace of 17.2% to an historic high of $329,100, the National Association of Realtors said.

Eurozone manufacturing enjoys record boom

Over in the eurozone, business activity in April experienced its fastest rate of increase since July 2020, thanks to record expansion in manufacturing output and a return to growth in the service sector. The composite PMI rose from 53.2 in March to 53.7 in April, according to IHS Markit’s preliminary ‘flash’ reading, which is based on around 85% of final responses to the survey.

Manufacturing output grew for a tenth straight month, expanding at a rate unsurpassed in more than two decades of survey history. The service sector continued to lag because of Covid-19 restrictions in many member states, but still reported the first expansion of activity since August 2020, rising from 49.6 in March to 50.3 in April.

Please continue to utilise these blogs and expert insights to keep your own holistic view of the market up to date.

Keep safe and well.

Paul Green DipFA

28/04/2021

Team No Comments

Invesco Insights: Israel’s economic data starts to show the impact of vaccines

Please see below for one of the latest Invesco Insight articles written by Kristina Hooper, Chief Global Market Strategist at Invesco Ltd. This article was received by us today 07/04/2021:

A month ago, I wrote about the great progress Israel was making in terms of inoculating its citizens against COVID-19. At the time, I said that we would want to follow economic data in Israel closely for indications of what the US and UK could expect in the near future — as they are making swift progress in vaccinating their respective populations — as well as what any country can expect once it successfully vaccinates a significant portion of its population. Therefore, I think it’s worth re-visiting Israel to see the impact that widespread immunization has had on its economy. It’s clear that Israel’s vaccination program is not only having a substantial impact on consumer confidence, but also on spending.

Israel’s data shows the impact of vaccines

While vaccinations only began in December, they ramped up quickly. As of April 4, Israel has given at least one dose of a COVID-19 vaccine to 59% of its population, with 54% fully vaccinated.1 The economic impact was seen relatively early on. As morbidity moderated, restrictions eased and the third lockdown was rolled back — and the Bank of Israel’s Composite State of the Economy Index for February increased by 0.4%.2

Mobility, which we have found to be a helpful indicator of economic activity, has increased substantially. By the end of March 2021, retail and recreation mobility (restaurants, cafes, shopping centers, movie theaters, etc.) was off by only 6% from January 2020 levels, while grocery and pharmacy mobility is actually higher than those early 2020 levels.3 And, not surprisingly, economic activity accelerated in March. Daily credit card data shows that the value of transactions for the week ending March 22 was actually 15% higher than it was in January 2020.4 By comparison, back in April 2020, the value of transactions was more than 40% below its level in January of 2020.4 The rebound in spending has been strongest in some of the areas hardest hit by the pandemic, especially leisure and tourism.

Why is this time different?

What makes this time different than past economic re-openings, like we saw in spring 2020? Before broad vaccinations, the re-opening of an economy was a double-edged sword. Typically, a re-opening would often be followed, after a lag, with an increase in COVID-19 infections. In addition, the increase in economic activity would typically be tempered because some consumers would be reluctant to go out and spend despite the re-opening because of health safety concerns.

I believe this time is different because vaccinated consumers will be more likely to re-engage in pre-pandemic economic activity and, according to medical research, should be well protected against COVID-19 — so spending should not be tempered as in past re-openings. Israel’s re-opening is already proving that vaccinations are leading to an uptick in consumer activity, and they haven’t seen another wave of COVID-19 infections.

A preview of what’s to come in the US and UK?

In my view, Israel’s current state illustrates what we can soon expect in countries such as the United States and then the United Kingdom — and in any country once it has achieved broad vaccination of its population. In the United States, 31% of the population has received at least one dose of a vaccine, and 18% have been fully vaccinated.1 In the United Kingdom, 47% of the population has received at least one dose of a COVID-19 vaccine, although only 7.8% of the population is fully vaccinated.1

The US economy is already seeing significant improvement, further helped by fiscal stimulus. For example, the March employment situation report saw a far-better-than-expected increase in non-farm payrolls at 916,000.5 And we just got the ISM Services PMI for March, which was also far better than expected, clocking in at 63.7 with all 18 services industries reported growth.6 The only problem is that COVID-19 infections are on the rise in some states in the US, so vaccinations will need to maintain momentum in order to slow and ultimately stop the rise in infections.

The UK is a bit more complicated and hasn’t shown as much improvement yet because it remains at a relatively strict level of pandemic-related lockdown, although stringency is being eased gradually.

Investment implications

I expect that rising vaccinations and improving economic data are likely to lead to a continued rise in bond yields and outperformance of smaller-cap and cyclical stocks, especially in countries that are leading the recovery.

I should add that in the US, there are a few clouds on the horizon in the form of growing fears of rising taxes. And that is likely to be the case for a number of countries burdened with higher debt levels created by the pandemic. While far from a reality at the moment, if an increase in taxes becomes more likely — especially a large increase in corporate taxes – we could see some shift in leadership, albeit modest, to larger-cap and more defensive names. However, it’s important to stress I don’t believe this would end the stock market recovery, but could just cause some rotation in leadership.

But right now, the focus is on the virus and vaccinations. As the Brookings-FT Tracking Index for the Global Economic Recovery has indicated, the ability to control COVID-19 is likely to be the main determinant of economic success in 2021.7 That is why the index shows major economies such as China and the US leading the global recovery. The index suggests that there may not be a coordinated global economic rebound, but that instead there may be a time lag for some countries, especially Europe and Latin America, given their lack of progress in vaccine rollout and general difficulties in controlling the virus. This isn’t surprising — and it’s something we anticipated last year when putting together our 2021 outlook. In other words, we believe an economic recovery is in the future for all parts of the world, but its timing and strength will be dictated by control of the virus and vaccine rollout progress, and so we will want to follow this data closely.

Key takeaways

Recent data has been positive

Mobility, which we have found to be a helpful indicator of economic activity, has increased substantially in Israel.

A preview of what’s to come?

In my view, Israel’s current state illustrates what we can expect in countries that achieve broad vaccination of their populations.

What might this mean for stocks?

I expect this economic recovery to be very robust, which may lead to outperformance by smaller-cap stocks and cyclical stocks.

Please continue to utilise these blogs and expert insights to keep your own holistic view markets up to date.

Keep safe and well.

Paul Green DipFA

07/04/2021

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Small caps can tell us a lot about the market mood

Please see below for one of AJ Bell’s latest Investment Insight articles, received by us yesterday 28/03/2021:

Small cap stocks are perceived to be riskier than their large cap counterparts and with good reason. As such, they can be used to judge wider market risk appetite – if small caps are rolling higher, we are likely to be in a bull market. If they are falling, we could be shifting to a bear market.

In general, small caps tend to be younger firms that are still developing. They are potentially more dependent upon certain key products or services, a narrower range of clients and even key executives.

Their finances might not be as robust as large caps and they are more exposed to an economic downturn, especially as they are less likely to have a global presence and be more reliant on domestic markets.

The UK’s FTSE Small Cap index currently trades at record highs, while the FTSE AIM All-Share stands near 20-year peaks. The latter is still well below its technology-crazed highs of 1999-2000. Equally, they are more geared into any local economic upturn.

America’s Russell 2000 index, the main small cap benchmark in the US, is up 16% this year and by 116% over the past 12 months. That beats the Dow Jones Industrials, S&P 500 and NASDAQ Composite hands down on both counts.

In fact, the Russell 2000 now trades near its all-time highs, having gone bananas since last March’s low. Such a strong performance suggests that investors are in ‘risk-on’ mode and pricing in a strong economic recovery for good measure.

Rising Prices

One data point which does not sit so easily with the US small cap surge is the slight pullback in America’s monthly NFIB smaller businesses sentiment survey, which still stands 12 percentage points below its peak of summer 2018.

This indicator must be watched in case it does not pick up speed as America’s vaccination programme continues and lockdowns are eased. Further weakness could suggest the recovery might not be everything markets currently expect.

Equally, inflation-watchers will be intrigued by the NFIB’s sub-indices on prices. In particular, the balance between firms that are reporting higher rather than lower prices for their goods and services, and especially the shift in mix towards smaller companies that are planning price rises rather than price cuts.

If both trends continue, then bond markets could just be right in fearing that an inflationary boom is upon us.

Interest rates on the move

The number of interest rate rises continues to gather pace on a global basis. Last month there had already been five hikes this year in borrowing costs, in Zambia, Venezuela, Mozambique, Tajikistan and Armenia. There have now been six more – Kyrgyzstan, Georgia, Ukraine, Brazil, Russia and Turkey.

The 11 rate increases we’ve seen year to date is already two more than in the whole of 2020.

In contrast, the US Federal Reserve is content to sit on its hands despite what is happening elsewhere. Chair Jerome Powell continues to reaffirm the American central bank’s commitment to running its quantitative easing scheme at $120 billion a month, while any plans to increase interest rates from their record lows seem to be on hold until 2024.

Powell does not seem concerned about inflation and is seemingly willing to risk its resurgence to ensure that the economy gets back on track in the wake of the pandemic.

Yet financial markets are still taking the view that a strong upturn is coming, because US government bond prices are currently going down, and yields are going up, regardless of what the Fed says. That is a huge change from the last decade or so, when bond and stock markets have been happy to slavishly take their lead from central bank policy announcements.

Please continue to utilise these blogs and expert insights to keep your own holistic view of the market up to date.

Keep safe and well.

Paul Green DipFA

29/03/2021

Team No Comments

Blackfinch Asset Management – Monthly Market Moves

Please see below for Blackfinch Asset Management’s latest Monthly Market Moves article, received by us yesterday 08/03/2021:

Market Performance

1st- 28th February 2021 (in GBP Total Return)

FTSE 100+ 0.65%
S&P 500 (USA)– 1.21%
FTSE Europe (Ex UK)– 0.94%
TOPIX (Japan)– 1.87%
MSCI Emerging Markets– 3.82%

Market Overview – February 2021

February was a tale of two halves for global bond and equity markets. What started out as a relatively positive month quickly reversed into a period of turbulent trading. Almost exactly one year to the day since the initial pandemic sell-off, inflation concerns caused bond yields to rise, causing a negative impact on equity markets, particularly those tilted towards growth stocks.

Inflation Fears Shake Markets

  • It has long been assumed that the economic recovery from the pandemic would cause some inflationary pressures. However, the fear that central banks, particularly in the US, may withdraw their substantial monetary policy support gripped investor attention.
  • President Biden’s $1.9trn stimulus package, which includes issuing further cheques to large swathes of the US population, moved closer to being agreed. This added further fuel to the inflation flames, evidenced already by the $600 cheques issued in January causing retail sales to come in way ahead of market expectations.
  • US Federal Reserve Chairman, Jerome Powell, did his best to reassure investors that the central bank will not consider raising interest rates, but his assurances did little to calm their nerves.
  • These fears caused the value of the US Dollar to appreciate. This in turn negatively impacts Emerging Markets, where countries hold significant portions of their debt in Dollars and therefore servicing this debt becomes more expensive.

Is the End in Sight for Lockdown?

  • More than 20 million people in the UK, almost one-third of the population, have received their first COVID-19 vaccine injection, with nearly 800,000 having received both doses.
  • Prime Minister Boris Johnson set out his ‘roadmap’ for an end to lockdown measures in England, starting with children returning to school on 8th March. While proposed dates are in place for a complete easing of lockdown, the public, and investors, should not get complacent given the prevailing uncertainty in the interim.
  • UK Gross Domestic Product came in ahead of expectations in December, reiterating the ongoing economic recovery.
  • Despite this, the UK economy contracted by a record 9.9% in 2020 but has so far managed to avoid a double-dip recession.

Little Change in Central Bank Policy

  • The Bank of England (BoE) left interest rates unchanged at 0.1% and kept its bond-buying programme at £895bn.
  • The BoE also commented on the possibility of negative interest rates, stating that most banks would need six-months to prepare for such a move. While this could be seen as foreshadowing a potential move towards negative rates in the future, it at least gives institutions some comfort that any move would not be in the near term.
  • The European Central Bank made no change to its monetary policy, keeping interest rates on hold as well as maintaining the €1.8trn Pandemic Emergency Purchase Programme (PEPP), confirming it will run until at least March 2022.
  • Chairman Jerome Powell announced that the US Federal Reserve will need to remain accommodative for “some time” yet. While its programme of substantial monthly government bond purchases looks likely to continue, Powell noted this could be eased once inflation and employment targets are reached

Summary

With markets having a difficult month, it is important to recognise just how far they have come in the last 12 months. As we pass the one-year anniversary since developed equity markets started to decline, as the potential impact of the pandemic became a reality, we must keep in mind that markets have rallied strongly since their trough in mid-March 2020. Therefore, periods of profit-taking are to be expected, particularly in those areas that have rallied the strongest.

While an end to lockdown measures feels within touching distance for some countries, including the UK, the emergence of new variants of COVID-19 remains a concern. As such, we need to temper any excitement of a ‘return to normal life’, as there is still a long way to go. Even so, right now in the UK the signs are promising that we may have our freedoms returned to us come the summer.

Please continue to utilise these blogs and expert insights to keep your own holistic view of the market up to date.

Keep safe and well

Paul Green DipFA

09/03/2021

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Brooks MacDonald Weekly Market Commentary 01/03/2021

Please see below for Brooks MacDonald’s latest weekly market commentary received by us late afternoon 01/03/2021:

In Summary:

  • Yield rises remain the major driver of equity markets
  • Johnson & Johnson’s single shot vaccine is approved in the US, adding to the breadth of vaccine supply
  • Israel eases some restrictions as the UK is set to lay out its reopening plans

Yield rises remain the major driver of equity markets

Last week saw a large uptick in volatility as higher yields caused a sell-off in markets that focused on secular growth sectors such as technology. Meanwhile, previously unloved sectors such as banks performed strongly on the back of steepening yield curves and lower expected defaults in the future as the economy recovers.

Johnson & Johnson’s single shot vaccine is approved in the US, adding to the breadth of vaccine supply

The theme of the last few days has been a tightening of restrictions, rather than loosening, as several European countries needed to roll back liberties and Auckland, New Zealand entered a fresh lockdown. More positively, the Johnson & Johnson (J&J) vaccine has been approved in the US with the company saying they can ship 100 million doses in H1 2021. While the efficacy data was less compelling for the J&J vaccine, it is recommended as a single dose vaccine which makes the rollout of logistics simpler.

The change in yields has had an outsized impact on technology companies

The ‘price’ of a financial asset is the sum of its future cashflows adjusted for a discount rate. In practice this means the sum of a company’s future earnings which are adjusted for interest rates plus an extra company specific risk premium on top. Value companies tend to produce higher earnings now but less exciting earnings in the future. Growth companies, by contrast, produce little now but are expected to make outsized earnings in the future. Because the earnings in growth companies tend to be further away, the discount rate is more important. Due to the power of compounding, a small change in interest rates can significantly reduce the present value of future earnings 10 or 20 years away. This is exactly what happened last week when a pickup in interest rate expectations caused high growth companies to look less attractive. The moves were relatively small, with the US 10 year rising around 7bps to just over 1.4% but with valuations richer in the technology space, this was enough to catalyse a sell-off.

Of course, the question is whether central banks will let further yield rises happen. So far, the Federal Reserve have pushed back against expectations for sustained inflation but have broadly welcomed the pickup in yields, saying it is reflective of an improved economic backdrop. The next Federal Reserve (Fed) meeting is on 16-17 March, however this week we hear from a series of members including Fed Chair Jerome Powell. Should rapid rises in yields continue to be a theme, we expect the Federal Reserve to step in, at least verbally, to steady further rises. Yield rises can impact both financial stability and damage the economic recovery so central banks will be paying close attention.

Please continue to utilise these blogs and expert insights to keep your own holistic view of the market up to date.

Keep safe and well

Paul Green DipFA

01/03/2021

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Legal & General: Our Asset Allocation team’s key beliefs

Please see below for Legal & General’s latest Asset Allocation Team Key Beliefs Article, received by us yesterday afternoon 22/02/2021:

The consumer economy

Tim Drayson, our head of economics, often warns us not to bet against the US consumer. Last week, the US retail sales numbers for January smashed forecasts and once again showed that stimulus works, especially direct cash payments to households. Around 25% of the $600 received by individuals earning $75,000 or less was immediately spent, generating a $30 billion bounce in retail sales across all categories. Perhaps as a sign that economic optimism is already well priced in, equity markets chopped around last week although Treasury yields have been drifting higher.

The price of everything…

Clients are asking whether stock markets are getting ahead of themselves. We push back on this. If equity prices move up in lockstep with your view of the future improving, you should become neither more nor less optimistic. Given we believe we are early in the cycle, the mantra should remain unchanged: stay long, buy the dips.

Price is no determinant of value or valuations; it is only useful in relation to what you get for what you’ve paid. Is $100,000 a lot for a car? It depends if it’s for a Golf or a Ferrari. This is one reason we use multiples to think about valuations. Multiples that have historically exhibited mean-reverting properties over the long run have had some predictive power for longer-term returns. Prices, though, are not mean reverting and tell you nothing about future returns.

We pay particular attention to relative valuation. The yield gap is one representative measure; it hasn’t moved much recently but is still high by historical standards. Moreover, early in the cycle it’s quite normal for valuations to shoot up. This rebound has, so far, looked quite similar to the one in 2009 in magnitude.

Our baseline is that this bull market will last until the next recession. There’s a lot of runway left before then, in our view, and we expect the S&P 500 to be materially higher before the bull market ends.

Real talk

Investors are becoming more worried about the rise in bond yields and the possible impact on equity markets. The recent choppiness in equities while yields have drifted up adds to their nervousness. Although we believe nominal and real yields will rise further (and by more than currently priced in the forwards), we think this should be well digested by equity markets. We note that the 2013 taper tantrum saw a 75 basis point spike in bond yields but ‘only’ a 6% correction in the S&P. (Tim recently discussed the possibility of new US tapering.)

Empirically, there’s not much evidence that rising real yields are particularly bad news for equities, especially from these very low levels. In fact, rising real yields have mostly been associated with higher equities. Historically, the correlation between real yields and equity markets has turned negative at much higher real yields.

It’s crucial to understand what is driving yield moves. As long as rising yields reflect a combination of higher inflation and better growth prospects, this should be positive for markets. Only when policymakers become worried should we be ready for change. Equity markets may panic when they see either a de-anchoring of inflation expectations or they need to bring forward the timing of policy normalisation. In our view, it is far too early for either of these, but clearly both need to be monitored very closely.

All about that base effect

The next round of stimulus is still being debated by Congress. Last week, Treasury Secretary Yellen commented that “the risk of doing too little is greater than of doing too much”. If such an approach is adopted, the direct uplift to household incomes will potentially be at least three times larger than included in the COVID relief bill at the end of 2020. This money should hit people’s accounts just as the US begins to re-open more fully. Alongside the excess household savings accumulated during the pandemic, this could fuel a surge in demand.

This makes us think about the implications of the money supply glut. None of us have seen money supply grow on the current scale, the only precedent being during the Second World War. Half of the increase in broad money supply sits directly in household accounts, and cash as a share of financial assets for non-financial corporates is at its highest levels since 1969. We believe that a significant amount of this cash will be spent, boosting growth, corporate profitability, and possibly inflation.

On inflation, we know there will be a pronounced base effect around the spring as prices fell sharply while the economy was locked down last year. This, plus later boosts from CPI components that were depressed by restrictions like airfares and hotel prices, could temporarily raise inflation above target-consistent levels.

The Federal Reserve has highlighted this potential outcome, with January’s minutes containing a discussion on why it would be prudent to look through this increase. This makes sense in our view as it is equally likely that inflation will fall back in the summer. Base effects reverse, and there are also some aspects of inflation that have been lifted by the pandemic but are likely to weaken once the economy reopens. Used-car prices are an example.

Further out, the inflation picture becomes much murkier. How much slack will be left in the economy? Does the jump in money supply matter? Are some of the structural disinflationary forces of the past decade, like technology, beginning to shift? How well anchored are inflation expectations?

We believe that inflation becoming high enough to constrain monetary policy is still a way off. But if we get there, central banks in developed markets might be surprised by how much they have to raise rates to reduce inflationary pressure. Money doesn’t play a role in their models, despite monetary aggregates generally being excellent predictors of economic aggregates, and they aren’t able to directly undo the monetary and fiscal one-two that’s been so effective at putting cash in consumers’ pockets.

Please continue to utilise these blogs and expert insights to keep your own holistic view of the market up to date.

Keep safe and well

Paul Green DipFA

23/02/2021