Equities can still generate an attractive premium for investors over the long term, despite recent “setbacks” in the markets, Keith Wade, chief economist and strategist for Schroders, has said.
He pointed to economic indicators that suggested there was a “battle” being set up between bond and equity markets among developed economies, as global equity markets and government bond yields have started to move in different directions.
Mr Wade said: “Some see this as setting up a battle between bond and equity markets: falling bond yields are often associated with expectations of weaker growth, which is a bad outcome for corporate earnings and thus equity prices.
“Since global growth expectations have been falling this year, the argument goes that equities will soon start to track bond yields lower, and the correlation between the two will become positive again.”
Current UK gross domestic product growth stands at 3 per cent year-on-year, although there is much weakness seen in Europe.
However, he said although bond markets could be right about global activity and the possiblity of weaker growth, he added: “We should bear in mind that equity markets also benefit from falling interest rate expectations.
“Equity prices reflect the discounted value of future profits and so can be boosted by a lower discount rate as bond yields decline. Equity investors may well judge that global growth and earnings prospects are subdued, but still see shares as attractive assets given the low discount rate, or to put it another way, the low returns offered on bonds.”
He said it was also important to note that equities were making far higher returns than cash or bonds, and were set to do so over the next seven years, based on forecast models.
Ben Brettell, senior economist for Bristol-based Hargreaves Lansdown, said: “As far as the economics are concerned, I do not think investors should be unduly concerned about Europe from a UK perspective.
“There is no doubt that the exceptionally weak performance of Europe’s big economies represents a significant headwind to the UK – the eurozone is our largest trading partner. However, it is a headwind I believe the UK economy is strong enough to overcome.
“As far as the prospects for UK investors who hold European equities, I believe our research team feels the European markets represent solid value at current levels, though volatility is inevitable.”