Please find below our Investment Market Update as at 20th January 2023.
I’ve completed my quarterly updates with our investment partners, and it’s been interesting to hear their latest outlooks regarding investment markets moving forward through 2023.
Whilst they all agree a recession in the UK and across Europe seems very likely, there are variances in the outlook for the US. The general question for western economies is, how deep will these recessions be and for how long? This is very different, of course, than the Covid recession which was a short sharp shock, with the recovery helped enormously by financial support delivered by governments and central banks.
No financial support is forthcoming this time as interest rate rises are intended to slow down economies, while in 2020 stimulus was designed to create growth.
There was a significant divergence of opinion on the outlook for equities, with JPMorgan being quite bullish whilst Legal & General Investment Management are quite cautious.
All accept that volatility will be marked over the next few months as everyone tries to work out what is unfolding and what the near-term future looks like. A couple of sectors where there seemed to be unilateral positive agreement was the Pacific (China being at the heart) and Emerging Markets. Something I’ve flagged recently.
There are a number of reasons to be hopeful:
- For the countries that are net importers of energy, lower energy costs have given some respite
- China’s re-opening gives hope for better supply chains and an increase in economic growth
- A weaker dollar is good news for many emerging market economies as loans tend to be arranged in the currency. A weaker dollar means less expense
- A weaker dollar helps reduce import costs
- Many Emerging Markets have been badly hit and have lagged their western counterparts since Covid.
The dollar weakens further
The dollar has touched a 7-month low according to ft.com, as interest rate expectations in the US ease on the back of weakening inflation.
The dollar index against a basket of its peers has fallen 10.7% since September. The pound against the dollar is currently at 1.23. If you remember, it was not long ago that there was talk of parity with the pound. How quickly things change!
The fall in the dollar is one of the steepest since the aftermath of the global financial crisis. The latest US retail figures showed a 1.1% year-on-year drop in sales in December — a bigger than expected fall that highlighted continuing weakness in the US economy. “The trend has been very much in favour of dollar weakness, so it doesn’t take much to push it further in that direction,” said Alan Ruskin, Head of G10 FX Strategy at Deutsche Bank.
The Fed has already pivoted from 0.75% to 0.5% increases in interest rates and is increasingly expected to shift to 0.25 increments. The Fed next meets on February 1. The sliding dollar has boosted emerging market stocks, with MSCI’s EM index rising circa 7% this year, compared with a fall of 22% in 2022.
“Emerging market assets have begun 2023 on the front foot, posting strong gains in the first two weeks… and broadly outperforming developed market peers,” said Caesar Maasry, a strategist at Goldman Sachs.
Insight’s Rebecca Patterson commented that the downturn in the dollar is not just about rates “the fundamental drivers regarding China reopening, softening inflation and better growth on the European front have contributed to this rally but the pivotal shift in markets at the top of Emerging Market investors’ minds, has been the reversal of the US dollar.” Most commodities are priced in dollars, so a weaker dollar helps cut import bills for Emerging Markets. It also makes it less expensive to service debt priced in the currency.
We are moving through the cycle
In light of the above, you can understand why investment houses are becoming more bullish but the surge in asset prices already this year is likely to cause uncertainty in the near-term as traders may decide to take short-term profits, due to concerns around economic uncertainty.
We are guarded about the near-term, but we do see some amazing opportunities unfolding, albeit in areas which traditionally have been seen as high risk.
Weaker economic data
On Wednesday, stock markets tumbled after weak US economic data weighed on fragile sentiment, despite these figures reinforcing the chances of a smaller interest rate increase by the Federal Reserve (Fed) at the end of the month.
December data showed weaker US retail sales and a steep decline in industrial production which manifested in the S&P 500 falling by 1.6%. Whilst inflation is weakening, investor sentiment is treading a fine line between interest rate expectations and an increased likelihood of a recession in the US.
I’ve spoken about company profitability many times and this being the last big concern for investors as western economic growth slows. It can be argued that a fall in company earnings is already priced into the markets. LGT Wealth made the point that perhaps as big a risk in some ways, is that earnings may be better than expected!
Ft.com however, highlighted Microsoft’s decision to cut 10,000 workers as not helping this gloomier economic outlook. Then we have Procter & Gamble’s shares sliding after reporting a slowdown in net sales. “Bad news is bad news” said Charlie McElligott, a strategist at Nomura.
UK consumer confidence falls
In light of everything going on, it is not a surprise that consumer confidence is being battered. GfK’s monthly consumer confidence index in the UK, a measure of how people view their own personal finances and wider economic prospects, dropped to minus 45 this month, slipping three points from December.
“One thing we can be sure of is that 2023 promises to be a bumpy ride,” said Joe Staton, client strategy director at GfK. “With rising prices continuing to swallow up pay rises, and the prospect of some shocking energy bills landing soon, the forecast for consumer confidence this year is not looking good”, he said.
Inflation eased marginally to 10.5% in December, down from a 41-year high of 11.1% in October, according to the Office for National Statistics. But underlying price pressures remained high while food inflation stands at 16.9%, the fastest pace since records began in 1977.
This data comes as the quarterly Credit Conditions Survey, released by the Bank of England on Thursday, showed that demand for mortgages fell at the fastest rate on record in the final quarter of 2022, excluding the second quarter of 2020, when the Covid-19 pandemic forced the housing market to temporarily close.
British retail sales drop unexpectedly
This morning, it was reported by Bloomberg that British retail sales dropped unexpectedly in December, as consumers dealt with rising inflation during the crucial Christmas shopping period. The volume of retail sales in the UK fell by 1% between November and December, according to figures published by the Office for National Statistics on Friday. The reading was well below the 0.5% rise forecast in a Reuters poll of economists.
Retail sales fell despite the government’s cost of living payments, delivered in mid to late November, which were expected to have “given an extra boost to spending in the lead-up to Christmas”, according to Paul Dales, Chief UK Economist at Capital Economics. The data capped off was proved to be the worst year on record for retail sales.
Global property issues
Bloomberg also commented that the weakness in global property prices is now spreading to commercial real estate. UK commercial property was one of the best performing asset classes for 2022, up until September that is, but from the September 1, this sector has fallen by 10.41% (source FE analytics).
The concern is that this weakening outlook unleashes waves of credit turmoil across economies. According to Bloomberg, about $175 billion of real estate credit is already distressed.
This has implications of course for banks. However, banks have already put aside capital to cover defaults but like with many factors right now, it is a question of how bad the data becomes.
At least there are opportunities now!
We are bombarded with enough awful news via the media without me adding to the angst! But it’s worth remembering my mantra “that as economic data gets worse, the better the opportunities are for investing”.
It helps the mindset if you think about investing and compare it with consumer behaviour when the sales are on in the shops. For desirable goods, when there is a sale on, people are queuing up for the bargains. However, when stock market prices are low, there aren’t lengthy queues!
There is no doubt that we are entering sales time, but we don’t want to dive ‘all in’ at the moment because we think there will be better sales offers around the corner. In other words, we don’t think it will be to long before we deploy the cash holdings we have in our internal portfolios as opportunities present themselves.
Encouraging news for Sustainability investing
I’ve highlighted the opportunities in the Far East and Emerging Markets, but we are also seeing some encouraging signs in the Sustainable space. Performance has picked up nicely over the last three months and sentiment has been helped by President Biden’s huge green package. In fact, he was praised by the delegates at the World Economic Forum in Davos.
Ft.com reported that top bankers and business leaders believe that the US has leapfrogged Europe in its handling of the climate crisis. Their $369 billion package includes subsidies aimed at luring companies to invest in technologies that will help cut the country’s greenhouse emissions.
Sustainability report from LGT Wealth
We are often asked how Sustainably orientated are our investments here at Blue Sky. Whenever we choose an investment holding, we always look at its ESG rating (Environmental and Social Governance). More and more data is becoming available to help ensure that those who want an authentic Sustainable fund, get one.
LGT Wealth, one of our investment partners, are consummate in the Sustainable space and are at the core of many of our propositions. They have produced an easy-to-read client friendly Sustainable report for each of their risk rated portfolios we use. I thought you might like to look under the bonnet and see a sample report for the LGT Wealth Sustainable growth portfolio. Please click the link.
If you would like the specific report for your own risk-orientated portfolio i.e. the balance portfolio, then please let us know and we’ll forward it on.
Sometimes bad news is indeed interpreted as bad news, but bad news on the economic front is increasingly being seen as good investment news!
We are now seeing opportunities unfold, something which was very rare in 2022.
Have a lovely weekend. Give me a cold and sunny day anytime!
Gary and the Blue Sky Investment Team
Please Note: This communication should not be read as giving specific advice regarding your personal circumstances. This would only be given following detailed assessment of your individual needs. The value of investments may fall as well as rise; you may get back less than invested. Past performance is not necessarily a guide to future returns.