At True Potential, we work with world-class fund managers across the full spectrum of asset classes and markets. We use their insights, as well as our own internal economic and research capabilities, to inform our outlook on global markets and economies. Here, we set out the key themes we believe are currently driving markets.
- Economic activity is now picking up beyond the US, along with the outlook for corporate earnings.
- Manufacturing data points to a cyclical upswing; meanwhile, services demand remains strong.
- In equity markets, both valuations and companies’ earnings outlooks reflect buoyant optimism.
- Improving supply of labour means that wage-growth statistics continue to signal disinflation (a decrease in the rate of inflation) in the US and the Eurozone.
- We still expect some reflation (a modest increase in the rate of inflation) ahead, given base effects in the second half of the year and moves in the energy market, where oil prices have risen around 10% so far this year. For example, consumer inflation is above 3% in the US – this remains a challenge for sovereign bonds.
- Outside the US, lower inflation would offer only limited support to the bond markets. Equities remain our favoured asset class for positive growth outcomes.
Around the world
In this section, we set out our views on the world’s main equity markets. True Potential remains positive on the outlook for global growth and continue to prefer equities over bonds. In this, we are encouraged by the global purchasing managers’ index, which is now at an expansionary level (above 50) and at its highest level for 19 months. But we are mindful of the risks of reflation, and we note that equity valuations appear elevated.
United States
Our outlook on the US equity market has marginally shifted as some areas of the US stock market now look richly valued. After a steady rise in valuations through the first quarter of the year, the constituents of the US equity index are now in the 90th percentile of their historical range. Meanwhile, GDP growth is slowing. The initial estimate of first-quarter GDP puts it at 1.6%, down from 3.4% in the fourth quarter. The 1.6% figure is well short of market expectations of 2.5%.
The US core Consumer Price Index (CPI) held steady at 3.8% in March and has now been above 3% for nine months. This reinforces our view that we are moving into a more reflationary regime. Under this regime, real GDP averages 2% and the core CPI averages 2–4%. Over the next 12 months, we expect core CPI to remain in that range. Markets have acknowledged this development, reducing the number of rate cuts expected for 2024 (from six at the end of 2023 to only one at present) and pushing out the timing from spring to late autumn. At their March meeting, the members of the Federal Open Markets Committee somewhat surprisingly continued to forecast three rate cuts this year. Given the uncertainty over the timing of cuts, we continue to favour high-quality, strongly cash-generative equities.
We continue to see the potential for a liquidity impulse (a sudden injection of money into the market) ahead of November’s presidential elections. The Treasury General Account ($770 billion) is currently in surplus of the $750 billion average that the Treasury seeks to maintain, so there is room for this to reduce somewhat. This could provide support for US equities.
Earnings expectations for 2024 continue to be revised modestly lower, but the longer-term consensus is increasingly positive. Earnings growth through 2025 is now expected to be close to 15%. Although first-quarter earnings from the ‘Magnificent Seven’ have continued to provide positive surprises, markets have reacted negatively to upside surprises in capital expenditure intentions: Meta’s increased spending plans being one such example. The recent downside miss in US GDP of 1.6% was driven by net imports being larger than expected. This is further evidence of a turn in the inventory cycle, supporting our belief in improved corporate outlooks and revenue growth.
The main risks to our outlook would be if earnings growth were to remain narrowly concentrated in the ‘Magnificent Seven’ or if an additional inflation impulse were to emerge.
Rest of the world
Improving economic data around the world is challenging the notion of US exceptionalism. This is reflected in increasing optimism about corporate earnings. Towards the end of the first quarter, earnings expectations for World equities ex US were upgraded both for 2024 (from +7.7% to +8.8%) and 2025 (from +11.3% to 11.6%).
In Europe, economic data has been notably positive. The Eurozone and UK economic surprise indices were the world’s best performers in the first quarter. In contrast to the stubbornly high CPI in the US, the German CPI has fallen five percentage points over the past year (from 7.2% to 2.2%) while the UK CPI has fallen 5.5 percentage points (from 8.7% to 3.2%). We think that this gives the European Central Bank scope to lower interest rates by the summer. The market currently expects four cuts this year.
Meanwhile, the Bank of England is also expected to begin cutting rates later this year, with a plurality of market participants currently looking for three cuts in 2024. We think that the ‘sticky’ inflation components – wages, shelter and service costs – will encourage the Monetary Policy Committee to hold rates until the summer. Our preference is still to be underweight UK equities and to look to reduce our overweight in gilts.
In China, we continue to see little evidence of a sufficient growth impulse or ability to stimulate demand and combat credit challenges in the property sector. The equity market has continued to respond well to recently imposed limits on short selling, however.
In True Potential’s view, we have become somewhat more cautious on Japan. The Japanese equity market has been boosted by the Bank of Japan’s reintroduction of monetary tightening after a 17-year hiatus, as well as by strong earnings growth and a weak yen. As in the US, however, the very strong performance of the equity market has left many stocks looking fully valued.
Valuations and asset views
Besides equities, we invest in bonds, alternatives, and currencies on behalf of our clients. Here’s how we view each of the major asset classes. As ever, we pay particular attention to valuations.
Although the US and Japan now look fully valued, equity valuations remain below fair value in Europe and the UK.
Meanwhile, we continue to hold sovereign bonds for the yield and total-return opportunity, as well as a potential portfolio hedge should we see a negative economic growth shock. Our preference for UK gilts over global sovereign bonds is somewhat reduced.
- We are less concerned about economic growth, so the yield and risk-adjusted returns available from inflation-protected bonds and corporate bonds (including high-yield credit) look more interesting than conventional sovereign bonds.
- Alternatives are a useful source of diversification in the event of higher-than-expected inflation, which could challenge traditional assets.
- In currency markets, we remain neutral on Sterling. This is because we still see room for the UK’s stickier inflation components (compared with the US and Europe) to impact interest-rate differentials in the future.
Summary
We are multi-asset investors who take a long-term view on the world’s markets. Recently, we have grown somewhat cautious on US and Japan equity valuations. We maintain a positive economic outlook on both regions. We continue to see attractive valuations in inflation-linked securities and corporate credit. We also remain alert to opportunities across the full span of markets and are committed to global diversification across our Portfolios.
All data sourced from Bloomberg L.P. (29/04/2024)
With investing, your capital is at risk. Investments can fluctuate in value and you may get back less than you invest.
This material is not a personal recommendation or financial advice and the investments referred to may not be suitable for all investors.
Opinions, interpretations and conclusions represent the views of True Potential Investments at the date of publication and are subject to change. Forecasts are not a reliable indicator of future results.
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