This year started with an elevated sense of certainty and concomitant optimism. A cosy consensus developed that left many crowded positions in equity, bond and currency markets highly sensitive to unexpected surprises.
Many now hope that we are re-engaging with a global synchronised economic recovery. It is our position that this is not a normal cycle and should not be considered that way by investors.
Tapering continues to dominate the landscape and is a major driver of asset prices. Indeed, some commentators now expect the strengthening economy to pull forward the date of interest rate rises. If fund manager surveys and futures positions are any guide, it would appear that broad swathes of investors are positioned accordingly.
However, we feel that these views may be misguided and will be challenged by the summer of 2014.
It is our central thesis that the current weather-related slowdown expressed in many US economic statistics may actually be something more fundamental. While growth improved in the second half of 2013, inventory investment grew from $56.6bn (£33.8bn) in the second quarter of the year to $115.7bn in the third and $127.2bn in the fourth.
If we accept that US inventories cannot keep accelerating each quarter, a return to average rates would equate to a negative 1.7 per cent headwind to growth over the coming quarters. The correction could be even more severe if the recent inventory building is unintended.
We believe that the US may shortly face a ‘growth shock’ that will cause major disruptions in many asset prices. Our proprietary model IntelliQuant points to disruptions in asset prices as we enter the second quarter of 2014. From a fundamental perspective, this would make sense, given the way most investors are positioned.
If we are correct, the consequences will be a further re-evaluation of the credibility of ‘forward guidance’ and distinct changes in the G7 policy mix, with innovative new measures introduced by many developed market central banks. This will be a difficult time and we remain alert to the potential for policy error or miscommunication that may lead to negative feedback loops.
We are mulling over the negative consensus views on emerging markets. While we only have a few data points, our interest is piqued by the potential change of trend in the Thomson Reuters/JeffriesCRB index, which comprises 19 commodities.
It is our belief that this is a significant signal. Perhaps it is a sign of a fundamental improvement and a better growth dynamic in the emerging markets that is masked by noisy data. Most commentators are ignoring this signal, but we believe it is important. This is an investment environment few expected to inhabit and one that continues to be challenging. 2014 may hold many surprises for investors.
Mark Harris is manager of City Financial’s multi-asset funds