2017: The year of Trump trade?
Staying focused on economic fundamentals is important against the rise of protectionist policies and a noisy political backdrop.
While the start to 2017 has not witnessed the same widespread investor panic of 12 months ago, the rest of the year could yet deliver some surprises.
A cluttered political calendar raises the perennial question of whether we should give the political context more influence in our investment thinking. Our view remains that the prospects for growth and inflation remain more important for investments than the various figures vying to preside over the world’s major economies.
Recent data reveals that growth and inflation are on the rise, suggesting that diversified portfolios will still be best served by being tilted towards stocks and away from the high quality areas of the bond market. We continue to have some faith that the constitutional safeguards in Europe and the power of economic self-interest in the US will help to keep the most unfriendly market outcomes at bay.
From pledge to policy
With the election of Donald Trump as the US president, investors have been grappling with the potential for a more protectionist, and inflationary, administration in the world’s most important capitalist economy. However, independent of all this, the prospects for growth and inflation around the world have actually been firming up impressively in the last six months.
The all-important US consumer looks in good health, with the behaviour of wages suggesting that most people who want work, have work – employee bargaining power is rising correspondingly. Perhaps ironically, these buoyant prospects for US consumer spending should bode well for global trade, where the latest data already suggests a tentative pick-up in volumes.
Meanwhile, earnings season on both sides of the pond is showing the corporate sector in decent and improving health, something that the survey data suggests we can expect more of. All in all, the indicators that we pay most attention to do not suggest an imminent end to this already elongated business cycle. There is, so far, no widespread evidence of the sort of private sector exuberance that traditionally precedes the most violent cycle ends.
The Year of the Rooster
As hinted at above, recent business confidence surveys and trade data suggest the emerging markets’ (EM) business cycle has bottomed. In terms of EM asset performance, there are generally a few factors to bear in mind. The direction of the US dollar and US bond yields tends to be influential, as does the path of developed world equities and commodity prices, specifically oil.
At the moment, we are constructive on both developed world equities and oil prices, with both benefiting from the generally brighter outlook for global growth and inflation described above. However, these brighter prospects likely come at a price for EM assets, as US interest rates and therefore the dollar likely have further to rise.
On balance however, we see the backdrop as likely favourable for EM assets in 2017. The new US administration may influence sentiment towards the asset class, however we continue to suspect that economic self-interest will ensure that its bark is worse than its bite on trade.
Feeling the pinch
As oil prices plunged in the second half of 2014 and the US dollar soared, inflation and inflation expectations around the developed world slumped alarmingly. Roll forward to the present and inflation expectations have hardened amidst conjecture on President Trump’s potentially inflationary agenda. There is an increasing likelihood for inflation to come in above central bank targets over the next few quarters in the major developed economies, particularly the UK. Given the prevailing backdrop, stocks remain the most attractive asset class to ride out the kind of inflation that we expect while inflation-linked bonds in the US offer another area of interest.
Prospects for the world economy seem brighter than a year ago, as evidenced by the pick-up in business confidence surveys across the major economies. Upcoming elections in core eurozone countries remain a concern for investors in 2017. However, the link between corporate profits and political risk is tenuous, and the presence of significant political barriers against further referenda in the core European countries should provide some comfort.
In China, concerns regarding the pace of capital outflows have resurfaced. However, further outflows or currency depreciation wouldn’t pose a huge risk to the financial system given how little China relies on external financing. More broadly, we believe the world economy will continue to grow and see the cycle end as a relatively distant prospect. The political backdrop is set to remain noisy as we move through 2017, but investors will be best served by tuning much of this out and focusing on the economic fundamentals.
Please bear in mind that this article is for general information purposes only. It is not a recommendation to invest. Remember, the value of investments can fall as well as rise and you could get back less than you invest. If you are unsure, seek professional independent advice.
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The value of your investments can fall as well as rise and you could get back less than you invest.