Expectations of a slight uplift in global economies should be tempered by some careful stock selection
It is difficult to set aside the near-term impact on the global economy and world equity markets of the current military action against Iraq, not least because of uncertainty as to its duration. However, while an end to the conflict may not be as speedy as some commentators originally forecast, most analysts still believe a protracted conflict is unlikely. Against this background, we are confident that the efforts of central banks and governments to boost global economic growth over the past year or so will lead to a modest uplift in economic activity once a resolution has been achieved.
One factor that is a useful barometer of the health of any economy is consumer confidence. In the US, for instance, it is clear that confidence among businesses, consumers and investors has been at a very low ebb. However, some of the uncertainty that compounded this lack of confidence has been removed by the start of military action against Iraq. If the outcome is favourable and relatively swift, we expect to see a more broadly based recovery in confidence. Coupled with America's low interest rates, wide-ranging tax cuts and the sharp rise in public expenditure, this renewed confidence could lead to a modest economic recovery, and a more sustainable upturn in US equity markets.
Meanwhile in the UK, the strength of consumer confidence has been a significant factor in sustaining its relatively resilient economy. Despite this, the performance of UK equities has been comparatively poor, with technical factors creating considerable selling pressure. As a result, we believe the valuation support for UK equities at their current levels is unambiguous and compelling.
However, we believe the outlook for European equities is less favourable, as the Eurozone economy remains weak, largely reflecting the sluggish Germany economy. Although the Eurozone's recent, albeit belated, interest rate cut suggests a more favourable background for corporate earnings could begin to emerge, we believe clear evidence that rising demand is boosting sales revenues is needed before there can be a meaningful improvement in the prospects for the region's equity markets.
The outlook for Japan is more difficult to assess. Fourth quarter GDP figures indicated that the Japanese economy was surprisingly resilient, with export growth remaining strong contrary to expectations, and there have recently been further positive surprises for the economy. These included an unexpected rise in large retailers' sales and a sharp drop in unemployment in February. In addition, the new governor of the Bank of Japan appears to be intensifying measures to resolve the bank's bad debt problems which could well provide positive momentum not just for the sector, but for the market as a whole. In contrast, we believe the outlook for other Asian markets is positive, reflecting the strength of intra-regional trade, largely driven by China, and the positive impact of the restructuring that has taken place across a range of industries.
Over the past three years, bond markets have soared while equity markets have retreated, and we believe there is little prospect of further outperformance from bonds, although within the asset class, corporate bonds are likely to produce the highest returns.
Among equity markets, we believe the outlook for the US, UK and Pacific Rim equity markets is most positive, while the prospects for Europe and Japan are less certain. Within any region, however, we consider stock selection to be the key to performance, and believe the target for global investors should be stocks that can be expected to deliver above-consensus earnings growth in what remains a difficult and challenging environment.
Richard Urwin is head of Strategic Research at Gartmore
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