With markets having wobbled at the start of 2014, Stephanie Flanders, chief market strategist for UK and Europe at J.P. Morgan AM, analyses the global recovery and describes where the next investment opportunities may lie.
When everyone seems to agree on what is going to happen, you can be pretty sure some part of that conventional wisdom will turn out to be wrong. We have learned that lesson early in 2014. In the first few weeks of the year, very little in the financial markets has gone according to plan.
Stock markets are down, when the global recovery was supposed to be sending equities further up. Government bond yields are also down, in a year when nearly everyone thought the gradual normalisation of monetary policy in the US would see long-term interest rates creep higher.
Does this mean we should be tearing up our forecasts for 2014 and starting again? I do not think so. In fact, I think the basic case for optimism about markets and the global economy is still intact: the advanced economies are picking up momentum, and the world is slowly getting back to some kind of normal.
When everyone seems to agree on what is going to happen, you can be pretty sure some part of that conventional wisdom will turn out to be wrong.
But, no-one ever said it would be a smooth ride. In fact, we have been saying the opposite. 2013 and 2012 were unusually easy for equity investors (see chart below).
We should not expect another year of above-average returns for below-average volatility. We find that case a lot easier to make now, than we did on 1 January.
It is true the economic numbers coming out of the US lately have been a bit disappointing.
But more than 80% of countries surveyed by [data provider] Markit are now in expansionary mode. We have not been able to say that for a sustained period of time since before the global financial crisis.
The UK is one country which looks destined to keep surprising on the upside. Typically, when the economy is ‘on the turn’, we underestimate the downturns. And when the recovery finally arrives, we underestimate that as well.
The consensus forecast for the UK in 2014 has roughly doubled since the summer – but at 2.6%, I would say it is still too low. On what we have seen so far, I am expecting growth to top 3% this year. Given the amount of ground we have still to catch up, we should consider anything less than 3% a disappointment.
The Bank of England has had the same forecasting problems everyone else has had – unemployment has fallen much faster than they expected as the economy has picked up speed.
The silver lining for governor Mark Carney in that forecasting failure, is that the Bank turned out to be equally wrong in its forecast for inflation.
At 2%, consumer price inflation is about one percentage point lower, now, than the Bank was forecasting six months ago. That should make it easier for the Monetary Policy Committee to hold interest rates at record lows for all or most of 2014 –though the ‘forward guidance’, which was unveiled with such fanfare last summer is, clearly, under review.
Looking further afield, we also see building economic momentum in many parts of Europe. It is early days yet for the eurozone recovery, but there is, now, some good news coming from crisis economies.
The numbers coming out of Spain, for example, have been consistently surprising on the upside. Ireland is also doing well. And in Greece, the January PMI survey hit the 50 level associated with economic expansion in – for the first time in more than four years. I am not expecting to see a strong bounce-back in growth in the eurozone in 2014.
In fact, I expect the European Central Bank will have to take more steps to confront the risk of deflation. But the news from the continent is a lot more encouraging than it was.
Emerging markets are a more challenging story. Investors have started the year punishing economies like Turkey and South Africa, which have been borrowing from international markets, and are therefore vulnerable to higher US rates. We have also seen some stronger countries such as Mexico getting sold off too – being tarred with the same brush.
That makes for hair-raising times for anyone invested in these markets. But values have now fallen so far, many of our fund managers would say they are well into the ‘buy zone’ for investors with a long-term perspective.
In the past, asset prices and currencies in emerging markets have tended to undershoot even further, before hitting bottom. For some, this will mean staying in the sidelines a while longer.
The prospect of losing another 20% – 30% before the market reaches bottom – is just too nerve-wracking.
That is sensible. But one lesson of past cycles is, the people who wait to be entirely comfortable before investing, do not make the highest returns.
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