Bad news is now being priced into markets
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The deflationary policies of austerity being implemented across Europe continue alongside the deleveraging of the private sector.
Yet neither, however necessary, does much to engender growth in the eurozone, which ultimately remains a critical long-term goal. Each new summit inches us ever closer to the fiscal union so desired by Germany before it can contemplate putting its hand in its pocket to assist the process. However, we are some way from anything resembling a final resolution – be that eurozone countries sharing debts or something different. The uncertainty that pervades markets is likely to continue for some time.
Eurozone struggles have clearly impacted sentiment and activity around the world. The Fed’s extension of its Operation Twist programme in US government bond markets may not be the only action from policymakers we see in the coming months. While we remain cognisant of the potential growth drivers for the US economy, near-term data continues to disappoint.
Amid the bad news, the recent fall in the oil price – down some 20 per cent from its February highs – could provide some respite. However, the bullish may yet be tested by the upcoming expiry of key tax cuts, programmed reductions in government spending and general political gridlock due to November’s presidential elections.
Elsewhere, China’s growing problems still appear underappreciated to us. Even without assuming a hard landing in the Chinese economy, there remain enough impediments to current levels of growth that do not yet appear fully priced into many markets. The strangely common belief that the Chinese government can control every aspect of growth in all its minutiae, where most have struggled through history, still seems somewhat questionable to us.
Overall, this is a subdued backdrop, but one that is becoming more widely accepted and priced into selective markets – which provides some reasonable opportunities to invest in them. While we are acutely aware of the challenges ahead, our concentration on risk versus reward is allowing us to continue shifting our portfolios to areas where many of the problems described appear more fully recognised in low valuations.
We are conscious that many of the defensive winners of last year now look more fully valued. As such, our active positions across both equity and fixed interest have continued to rotate to a more neutral allocation – adding selective risk where valuations appear appropriate – albeit in smaller sizes than in recent months.
This rotation started in our UK and European holdings, with an emphasis on selected domestic cyclical areas – be they financials, retail, media, et al – and away from the more highly valued China