Over 12 months ago we were optimistic on the outlook for equity markets because they had fallen belo...
Over 12 months ago we were optimistic on the outlook for equity markets because they had fallen below fair value against bonds and interest rates were being cut aggressively to boost global economic growth. This year looking forward, the outlook is far more uncertain.
The overall interest rate profile is upwards and the sell-off in bonds has made equities look expensive, particularly in the US.
A fundamental shift within global markets has been the dichotomy in performance between the 'old' sectors and the 'new' industries. This 'new paradigm' of technology-related growth remains on track.
The US economy has continued to grow at fast levels and as yet the tightening in interest rates has had little discernible impact. There are one or two pressures in the supply chain and the fundamental belief in the 'new paradigm' is not inconsistent with a rise in cyclical pressures within the economy. The issue remains the level at which interest rates have to be increased to, in order to slow the economy to a sustainable pace. We tend to believe in a 50 basis point increase. However there is a significant risk that rates will have to increase further.
The fast levels of productivity growth should continue as the internet becomes more developed on both a business and a consumer level. Technology stocks remain excellent performers and with top line revenue growth continuing to surprise on the upside, the outlook for the sector remains positive.
However, such high valuation levels are vulnerable to a downturn created in business investment if a hard landing were to materialise.
The rise of the 'new Japan' has continued in recent weeks as investors focus not only on the technology-related situations but also the restructuring stories. The economy is still showing the desirable combination of stronger consumption and weaker investment. We remain positive that the government expenditure levels will be sufficient to ensure that growth levels do not soften.
The Bank of Japan also appears to have recognised the danger of tightening the monetary policy too much and we should see a boosting in the supply of yen. Despite the gains already achieved this year, we remain optimistic for the equity market.
We continue to take a more optimistic viewpoint on UK interest rates than the money markets. Core inflation looks likely to be below the government's target of 2.5%, even if the headline level moves up as a result of rising mortgage rates. The dual economy continues to exist with manufacturing remaining tough and a lack of investor interest in the sector.
Recent weeks have seen nothing short of a feeding frenzy in the technology sector buoyed by a structural underweighting amongst some fund managers and further gains on Nasdaq.
Continental Europe is one of our most favoured regions with France one of the fastest growing of the core economies boosted by strong consumption. Recent interest rate rises are not a major concern as they are coming from unnaturally low levels.
Unemployment and the inflexibility of the labour market is of some concern, although companies still seem able to restructure.
Debt markets continue to price in large downside risks into the emerging markets which look excessively harsh. Economic growth and restructuring are evident in Asia, while Latin American industrial production has bottomed along with a credible 2000 Brazilian budget. Ongoing fund flows demonstrate that the markets are still under-owned.
Christopher Bell is fund manager at Framlington
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