Investors now have little alternative but to support risk assets if they want to beat inflation, says a senior advisor at international independent financial advisory organisation deVere Group.
International investment strategist at deVere Group Tom Elliott, pictured left, made the call as, in his view, global stock markets enter 2018 with “positive momentum”, including the Dow Jones, which has achieved the historical feat of going over 25,000 points.
Market confidence, says Elliott, is supported by a “reasonably strong cyclical upswing” in world GDP growth.
This growth, he says, is being translated into corporate earnings growth thanks to the view that central banks will not “significantly tighten” monetary policy unless justified by growth and inflation data, and by the US corporate tax cuts announced in December which will boost Wall Street corporate earnings.
“In the face of continuing low interest rates and bond yields,” says Elliott, “investors now have little alternative but to support risk assets such as equities and non-core government bonds, if they want a yield that will beat inflation.”
The overriding view among investors when it comes to market performance in 2018 is best summed up by the acronym MOTS – “more of the same”.
In other words, deVere Group sees solid returns for stock markets with continuing low volatility, and positive returns from investment grade corporate bonds.
However, says Elliott, there are risks to the “MOTS scenario”.
These include, he says, central bank policy error, Trump turning America away from its traditional support for free trade, a credit crunch in the Chinese financial system and from geopolitics such as North Korea and the Middle East.
“However, as supporters of MOTS would argue,” he points out, “none of these risks are particularly new and they failed to de-rail markets in 2017.”
He continues: “We favour a long-term multi-asset approach to investing, whereby investors choose a suitable combination of global equities and bonds – depending on their risk profile and investment horizon – and leave the portfolio unchanged. Regular re-balancing ensures winners are sold and losers are bought – which financial history, and common sense, supports but which is so hard for us to do in practice.”
Look to the east for value – west is not best
In the coming year, says Elliott, Japanese and emerging market stock markets appear to some commentators to offer most value, the US less so.
The Japanese economy, which grew at an annualised rate of 1.4% in the third quarter 2017 (despite a shrinking population), continues to benefit from a weak yen and the upturn in global demand for its exports, he points out.
Says Elliott: “Fiscal reform, in particular lower corporate tax rates for companies that increase wages by 3% or more, comes into effect in April.
“It is hoped that this will lead to improvements in household demand growth, which has been weak in recent years.
Emerging market equities continue to look undervalued relative to their developed market peers on most valuation measures, despite their outperformance in 2017.
The only way is down for Wall Street
Turning to the US, his analysis urges caution, saying that Wall Street is the “most overvalued” of the major stock markets, with the attractiveness of equities against bonds diminishing as Treasury yields creep up.
“However,” he says, “the increase in yields is likely to be modest and US corporate earnings growth will remain strong, limiting any pull-back in share prices.”
The weak dollar will help to boost export earnings, while strong consumer confidence supports domestic-focused sectors.
Tax cuts will be a net benefit to US corporate earnings, but the impact of changes to the tax code on individual sectors is as yet unpredictable, in Elliott’s.
“Fourth quarter earnings statements and outlook comments, from mid-January, will hopefully offer clues,” he says.
Elliott is less certain about fixed income, saying: “Once again we begin the year with commentators generally nervous of bonds, fearing that an inflation problem is around the corner. Some fear that central banks will tighten monetary policy faster than is priced into the market in an accelerated effort to ‘normalise’ policy.
“It seems prudent to heed such warnings, even while acknowledging that the fear of imminent inflation has been voiced by monetarist hawks – and proved wrong- ever since central bank’s policies of quantitative easing and ultra-low interest rates began nearly 10 years ago.
“This suggests favouring short duration core government bonds, since the cash can be re-invested in a few years in higher bond yields.”