So … what next? Year Ahead, 2021

As a demonstration of how difficult forecasting the next twelve months can be, 2020 surely takes the prize.

Thanks to a blend of structural diversification, tactical responses and active risk management, our portfolios managed to navigate the year reasonably comfortably, but we certainly didn’t see COVID-19 coming. We weren’t alone in that – how many pieces published this time last year came even remotely close to predicting the social and economic rollercoaster we’ve just been on?

Part of our job as investors is to think about what’s ahead. That doesn’t mean making pinpoint accurate prophesies though. We try to form a rough picture of the future, which we then adapt and improve and change and update. It’s about building a narrative, but being prepared to challenge it as events unfold.

Here are a few of the themes we think will be important in 2021 for global investors.

Thinking local, not global

Most of the time, problems aren’t global in the way COVID-19 has been. Normally, economic events tend to be localised – limited to certain countries and regions. Investors will need to remember that over the next twelve months.

Across the world, government spending has risen, and interest rates are low – every nation had the same response to the pandemic. But countries are likely to plot different courses out of the current state of emergency. Some will look to stimulate growth, whereas others might try to cut back on spending. And different priorities will be emphasised – while the US looks to build its green energy infrastructure, Europe may be spending more money on technology, while Asia focusses on manufacturing.

The differences in interest rates and debt will be particularly relevant for government bond markets. Every country in the world is in more debt than it was this time last year. Monetary policy may start to become idiosyncratic once more – with some central banks prioritising the control of inflation by raising rates, while others prepared to keep things looser for longer. Investors will need to decide what they value most in a government bond. Is it the overall return after inflation? Is it the safe haven characteristics? Is it the issuing country’s debt pile? Diverging views will mean diverging returns.

Inflation isn’t just a memory

It’s been a long time since investors in any developed market have had to seriously consider the impact of inflation on their portfolios. Partly, this is structural, with the cost of basic goods such as food declining over decades as technology has continued to drive down prices. But there are some signs that more cyclical bits of inflation could be heading our way.

The COVID-19 crisis has resulted in a flood of money being pumped around the financial system. This happens during most financial crises, and tends not to be inflationary, because demand takes a long time to rebound – people don’t go and spend the money immediately, it trickles in over years. However, the development of vaccines might mean that this recovery is a lot faster – the trickle could be a flood, with lots of spending driving up prices of goods and services.

This won’t be an inflation shock like in the 1970s, but will certainly feel very different to the last few years. Investors will be looking for assets which hold their value, either through explicit inflation-matching guarantees, or through the potential for growth. Again, government bonds could struggle.

More diluted equity markets

Concentration in equity markets is at all-time highs. Five companies make up 22% of the US equity index – Apple, Microsoft, Amazon, Facebook and Alphabet (Google). In China, the situation is even worse; Alibaba and Tencent are 30% of the stock index. These tech giants aren’t going to disappear, all of the businesses consistently generate incredible amounts of revenue. Their time in the sun might be over though.

Two things threaten these businesses and their dominance of equity markets. First is their valuations relative to other industries. While all of the companies are likely to keep growing, investors are becoming more alert to how much it costs to invest in that growth – these stocks are now quite expensive. As the recovery starts to take hold, opportunities are emerging in other sectors. An industrial company may only be growing at half the rate of an Amazon or Google, but if it is a tenth of the price, that starts to look interesting.

At the same time, these massive tech companies are finding out that getting big and powerful means making enemies. Governments around the world are looking at two things in particular – the amount of influence that is wielded on ordinary people, and the amount of cash that is being made. As mentioned earlier, governments are worried about their debts. Taxing big tech wins hearts and minds, and helps the bank balance. We expect lots more regulatory scrutiny in the next twelve months, particularly of the biggest names in the world.

ESG goes mainstream

The UK is hosting the UN Climate Change Conference in November 2021. Previous events haven’t really made much impact on the public consciousness. That won’t be true this year.

Just counting the number of television adverts for electric cars suggests that something has changed. Consumer preferences are already shifting towards prioritising environmental, social and governance (ESG) concerns. That trend is not going away. Whether it is sustainable shopping, or clean energy, or ethical considerations about a business, investors need to start getting comfortable with going green.

The key problem with ESG investing has always been consideration of what an investor is missing out on. There have always been far more non-ESG businesses than ESG-friendly ones – the universe has been quite limited. But as consumer habits change, so businesses change. Over the next year or so, companies that wilfully ignore ESG aspects of their business will find it harder and harder to win investment and raise capital. Sooner or later, every portfolio in the world will be a shade of green.

Brexit

It’s tough to know what to write about Brexit in the coming year. Even on January 1^st, it’s unlikely to be much clearer. 2021 will still be all about trade talks. Any deal that is struck with Europe is going to, in some way, be temporary and makeshift, merely setting the stage for the next round of negotiations about key areas. And our terms of trade with the rest of the world are nowhere near sorted – if there is to be a benefit of Brexit, it means revisiting and improving each deal with each individual country, whether it’s America or Armenia.

The idea that the end of 2020 will bring an end to Brexit is misplaced. Our relationship with Europe is a permanent one, due to geography if nothing else. The economic impact of any new trading status is also unlikely to be obvious, given the uncertainty created by COVID-19. And socially, around half the country (arguably more!) is going to be unhappy, whatever the outcome. Arguments and discussions over the past impact and the future direction of Britain are going to be with us for decades. Where we can, we’ll try to spend the next year thinking about some of the other trends mentioned here, rather than Brexit.