In a world where economic growth does not appear to be the problem, politics in Europe and Donald Trump’s multiple efforts to cause upset could inevitably cause the market to wobble. But how should investors be reacting to events?
Our outlook for June continues to emphasise the growth story. Central banks remain the best indicator here. Investors sometimes forget that some of the brightest people in the world spend all of their days trying to determine the economic picture, and that, in general, second-guessing the authorities is not a winning strategy. The clear and overriding message at the moment is that growth is not a problem, anywhere in the world. In such an environment we suggest ignoring the politics where possible.
Admittedly Donald Trump does seem to be doing his best to make that challenging. With so many plates spinning – China trade, NAFTA trade, EU trade, Iran, North Korea – a few will definitely wobble in the next few months, but overreacting is likely to do more harm than good. That’s easier said than done for both journalists and markets, so we wouldn’t be surprised to encounter some occasional bursts of turbulence. We would note that the entire US political system is set up to make sure that the various branches of government (executive, legislative and judicial) constrain one another. This was talked about a lot before the election, and it is a system that we believe will continue to limit the scope for drastic policy shifts.
With so many plates spinning – China trade, NAFTA trade, EU trade, Iran, North Korea – a few will definitely wobble in the next few months, but overreacting is likely to do more harm than good.
It is also surprising how often politics makes headlines and moves markets in the Eurozone. One would have thought by now that markets were used to the idea that there would be a political event happening somewhere in an area comprising 19 different countries at its core. Yet, while there is apparently a perpetual appetite for worry that can surface at any time, it can also stay dormant for long periods.
One southern European country, after an inconclusive election three months ago, failed to form a government. Another southern European country lost its Prime Minister of seven years to a no confidence vote amidst a corruption scandal. The former of these in Italy caused panic in both bond and equity markets. The latter, Spain, just days later, saw nothing unusual – barely a headline.
This is what makes forecasting the impact of European politics so difficult. So, whilst we will be keeping a close eye on the signals from European politics, we are also conscious that it can be dangerous to overreact in a region where, to a certain extent, a large amount of background noise is always going to be present. Anyone panicking every time an Italian government changes would not have left time for much else over the past 50 years.
Growth is still the swing factor in Europe. We stand by our view that investors have become far too negative on their outlook for Europe. Whilst unlikely to see economic growth quite reach the 2.4% growth seen in 2017, the final number is unlikely to be below 2% – pretty spectacular for the Eurozone. Investor sentiment is currently at levels more commonly seen in recessions. We don’t know what might change that view in the short-term, but once the embedded nature of underlying growth is recognised, equity markets could benefit hugely.
Leaving Europe (or crossing the Channel at least), we turn to the UK. Since June 2016, investors have grown accustomed to equating the value of Sterling with the UK economic outlook. So are we concerned that a weaker Pound means Brexit has doomed the economy?
In a word, no. In 2017, when there was much excitement about the stronger Pound, we were pointing out that in fact the story was one of US Dollar weakness. Similarly today, the ‘weakness’ of the Pound is once again only in comparison to the US Dollar, which has been rallying against almost every global currency. When it comes to looking at currencies as a guide to Brexit, the Pound is only a reliable guide at pivotal moments. In the course of normal affairs, there are far more people in the world using, trading and speculating on US Dollars, Euros and Yen based on things other than the UK’s political situation.
Therefore our UK outlook remains the same as over the past year or so. Whilst domestic consumer and overseas investor confidence may be slightly soft, the UK is a beneficiary of global growth and will continue to benefit from this positive influence. From an investment standpoint, the large cap UK equity market has been experiencing similar benefits. The global nature of large UK companies leaves them more geared towards the global economy than the domestic one, with the added catalyst of weaker Sterling providing an extra boost to earnings.
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