As short-term market movements continue to be dictated by politics and the media, advisers and their clients need to remain cautious and think ahead of the curve, warns Guy Stephens
The business of forecasting and the accuracy thereof is more influential today within the world of money management than it has ever been. Much of this is due to the speed of communication and the proliferation of 24/7 news, Twitter accounts and the impact this has had on the media.
The casual observer could be forgiven for thinking this would lead to better forecasting with greater accuracy - but something seems to be going wrong in this world of big data, leading to more surprise outcomes.
We saw another two cases of this last week, where political outcomes surprised many. The first was the result of the Dutch elections and the second the volte-face from Chancellor Philip Hammond. In both cases, the opinions of voters were revealed to be markedly different to those in power, perhaps revealing the vacuum of understanding between the two that is currently fuelling the call for change. Are career politicians disconnected from the people that elected them?
The major news from Europe this month is that the populist revolution appears to have stalled, which must have prompted a significant sigh of relief in Brussels. Whether this is good news or not depends on your point of view. The Dutch right-wing candidate Geert Wilders polled far less successfully than predicted, much to the disappointment of the sensationalist media who would have preferred an alternative outcome.
In fact, Wilders makes Donald Trump look politically correct - not that he would have been able to actually form a coalition. This is quite revealing because the Dutch vote was originally forecast as the most likely to deliver firm evidence of the current European appetite for populist change. Clearly the media oversold this story, choosing to focus on the sensationalist headline despite this being out of tune with the broader populace.
It is small wonder Francois Hollande and Angela Merkel were amongst the first to congratulate incumbent Prime Minister Mark Rutte on his victory. In terms of investment, this led to a small rally in European equities, as the wind was temporarily removed from the sails of Marine Le Pen's French campaign.
The UK equity market also rallied, but mainly on further weakness in Sterling as Nicola Sturgeon upped the ante on a second Scottish referendum. We always knew 2017 would be politically charged, but it is interesting that short-term market movements are being almost exclusively dictated by politics and the media.
As an example, recent tweets from Trump regarding North Korea are not conducive to smooth relations with China, where he has accused the government of not doing enough. What is more, while most of Trump's Presidential confrontation to date has been self-inflicted and directed against the media, at some point he will need to deal with an external crisis or direct confrontation from another nation.
His recent meeting with Angela Merkel was clearly not an overwhelming success, which is hardly a surprise given his public anti-EU comments prior to the US election. It is surely only a matter of time before his openly bombastic style and highly undiplomatic rhetoric comes up against a robust and indignant response from a major global leader.
The media will love it - but markets will not, as they will worry where it leads and how far it will escalate. It feels like a return to the 1980s, with the publicised political ego making a comeback and a soon to be started new arms race. Other political egos must be relishing the opportunity to humiliate Trump and are likely to be quietly waiting in the wings for an opportunity.
Clouds on the horizon?
Returning to fundamentals for some sanity, we should be looking to see if there are any clouds on the horizon the media frenzy is missing. For instance, last week was quite revealing with regard to the statements from the US and UK central banks. Both appeared to deliver a message which was ‘less dovish' than previously.
I choose the words carefully as this was the first time the respective statements did not reconfirm a reticence to tighten rates. To us, it appeared noteworthy the US Federal Reserve still plans two further rises this year rather than fewer and there was also the first sign of a desire to raise rates from the Bank of England's Monetary Policy Committee, albeit by only one member. In short, the monetary sands are slowly shifting.
The strengthening economic situation in the US does suggest a more hawkish tone is appropriate, but in the UK and Europe we have become accustomed to rock-bottom interest rates and ongoing quantitative easing (QE). With inflation on the increase, albeit for cost push reasons, the Bank of England must be thinking ongoing QE is inappropriate.
The banks are mostly returning to profitability and the Brexit fall-out has been non-existent so far. Mark Carney and Mario Draghi need to be careful what they say, as the bond markets will be hyper-sensitive to a shift in stance.
Yet, to us, the macro data is increasingly suggesting monetary policy is too accommodating and this could be dangerous if it is allowed to continue for too much longer. That said, the uncertainty of Brexit is probably tempering the hawkish views in both camps yet this could lead to inflation rising beyond current forecasts over the summer. That would lead to volatility and the Remainers, who have been economically impotent since the Brexit vote, would suddenly have some ammunition to throw around just as we are starting negotiations.
The fundamentals-based investing environment of the lowly investment manager currently feels very detached from the highly charged politically obsessed media. Analysing the short-term noise is largely pointless as one headlining tweet is superseded by another and most of the stories really are created out of very little.
What we can say is that equities remain the most attractive asset class in a globally expanding economy from both a capital growth and income perspective. Fixed interest looks the least appealing as the risk is on the downside if QE is wound down more quickly as inflation picks up.
Markets were very comfortable with the extension of QE and negative bond yields while the oil price and commodity bubble was bursting, introducing deflation. The oil price and commodity prices have now risen and stabilised, and the Chinese economy is not weakening like it was. Surely there will be a hawkish headline soon, signalling the return of QE tapering similar to that which affected the US in 2013?
Whatever transpires, negative real interest rates in the UK and Europe are beginning to look out-of-step with economic reality and policymakers cannot sit on their Brexit hands for the next two years. We are expecting some tightening rhetoric to emerge soon which may surprise some. This further supports our underweight position in fixed interest and suggests some caution ahead would be wise.
Guy Stephens is technical investment director at Rowan Dartington
Joining London team
Previously at Old Mutual Wealth
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