Market update - July
Global growth on track but macroeconomic concerns return
Despite weakening growth in the UK we maintain our 2017 global growth forecast at 2.9%, supported by strong growth in the eurozone and steady growth in the US, Japan and China. Inflation has risen, but appears to have peaked in most major economies following the stabilisation of energy costs. Concerns over rising protectionism are fading as President Trump has yet to translate rhetoric into policy. However, traditional macroeconomic risks are making a comeback with investors worrying about increasing interest rates in the US, persistently low economic growth and even a Chinese hard landing.
Europe strengthens whilst the UK runs out of steam
Despite this uncertainty, the eurozone appears to be going from strength-to-strength with broad improvements in growth and a reduction in political risk on the back of Macron’s victory in France. In contrast, the UK economy seems to be running out of steam. Growth has been hindered by the weakness in the pound and the resulting pick up in inflation, combined with the post referendum slow down in business investment. As cost of goods increase faster than wages, consumer spending is likely to continue to weaken. The Bank of England is under pressure to increase interest rates in response to rising inflationary pressure although there is concern that this would further stifle growth. We are not forecasting a rate rise in the UK this year.
While we expect economic growth to remain supportive, we note the recent weakness in some leading economic indicators which may cause the equity rally to pause for breath. In the UK, deteriorating earnings momentum, weaker economic growth and the overhang from concerns around the Brexit negotiation process continue to weigh on sentiment. However, it is worth remembering that the UK equity market with over 70% of its earnings generated overseas is not representative of the UK economy. Further afield, we view the US as more defensive equity exposure albeit at more expensive valuations. We prefer European equities where earnings have improved markedly in spite of a strengthening euro, while monetary policy remains accommodative and valuations continue to look attractive. Emerging markets equities are set to benefit from the long-term pro-cyclical recovery and are currently enjoying the tailwinds of a weaker US dollar and favourable valuations. We remain underweight bonds and prefer to diversify into alternative assets such as absolute return and infrastructure where appropriate. Property offers an attractive income return although capital returns are likely to be underwhelming in the near term. We expect to see a pick up in volatility which should provide opportunities for long term investors.
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