22 January 2019 – In this week’s market update:Chinese growth falls to its lowest rate in nearly 30 years as the IMF warns on global activity; US earnings season gets into full swing; and Theresa May digs in after the government’s biggest ever defeat in the Commons
After a decent start to the year for investors, they received a cold shower this week as two announcements flagged a worrying slowdown in the global economy.
First, the International Monetary Fund kicked off the annual Davos meeting of business and political leaders by warning that the global economy was slowing faster than expected, with rising risks from trade wars and financial market instability. Publishing its report to coincide with the start of the forum in the Swiss Alps, the IMF reduced its forecast for the overall world economy from 3.7% in 2018 to 3.5% in 2019 and 3.6% next year.
Second, Chinese growth hit its slowest annual rate since 1990, although at 6.6% the world’s second biggest economy is still expanding at a pace that the rest of us can only dream of. Full year growth in 2018 compared with 6.8% in 2017 and was the worst since sanctions were imposed on Beijing in the wake of the Tiananmen Square protests in 1989.
For the fourth quarter, growth dipped as low as 6.4%, marginally behind the government’s 6.5% target. This was the worst three-month performance since the financial crisis, which China countered with massive monetary and fiscal stimulus. That saw growth quickly spike upwards again to a double-digit rate, but it has progressively slowed in recent years and the new level has the feeling of a new more-subdued normal.
The Chinese data and IMF forecasts took the wind out of global stock markets, which had started to recover from their correction in the fourth quarter of 2018. Asian markets were down across the board on Tuesday, with concerns also that a hoped for improvement in trade relations between China and the US was fading
Once again, China has responded to its latest slowdown with a series of stimulus measures and last week the government laid out plans for additional help. Although US tariffs have not yet had a real impact on economic activity, they have damaged sentiment, leading to a slowdown in consumer spending and capital expenditure. China is the world’s biggest market for car sales, so it is particularly alarming that these have declined over the past year, again for the first time since 1990.
China was one of the worst-performing stock markets in the world in 2018, with the benchmark CSI 300 index of Shanghai and Shenzhen stocks losing around a third of its value as it fell from a peak in January of nearly 4,500 to a year end level close to 3,000. That took the index back to where it stood at the height of the China growth fears at the beginning of 2016, from where it had enjoyed a strong bull market in 2016 and 2017.
Volatility is par for the course with Chinese shares, and the main indices have endured some spectacular rises and falls over the past ten years with shares ultimately moving sideways since 2009. It has been a good example of the market truism that economic growth is only part of the equation for investors - the price you pay and how high expectations are at the time of purchase are also key determinants of how successful an investment turns out to be.
The domestic Chinese market also tends to be more volatile than more developed markets because investors there tend to have a less ‘buy and hold’ mentality, seeing the ups and downs of the market as a trading opportunity. That’s a generalisation, of course, but it does mean that the direction of the market is much less predictable and the overshoots in both directions more pronounced.
Over in the US, earnings season is in full swing, with results announcements due from a wide range of sectors. Companies announcing this week include Ford, Starbucks, Johnson & Johnson, IBM and a group of airlines including Jet Blue, Southwest, American and Alaska Air.
After a bumper year for earnings growth in 2018 - above 20% in each of the year’s four quarters - expectations are considerably lower this year. The consensus estimate is for 10.6% growth in earnings for the S&P 500 in the first quarter of 2019. Like Chinese GDP growth, this is slower but still pretty good by historical standards.
Elsewhere in America, attention is firmly focused on Washington where attempts to end the longest-ever shutdown of the US government have run into the sand. President Trump started to retreat from his previously uncompromising position at the weekend, offering to extend protections for some undocumented migrants in return for the $5.7bn he is demanding from Congress to build a wall along the US border with Mexico.
The Democrats, who now control the House of Representatives, have refused to provide funding for the wall and they immediately rejected his overtures on Sunday. As importantly, the President was lambasted by Republicans who want him to continue taking a hard-line on immigration. With his poll ratings slipping and the US economy starting to show signs of strain, the President now finds himself increasingly isolated with enemies on both sides of the house.
With the shutdown now entering its fifth week, he is also increasingly unpopular beyond the Washington Beltway too. Parts of the economy most exposed to government employment and spending are starting to suffer. Demand at food banks is increasing and most voters seem to blame Mr Trump for the failure to get government functioning again.
Despite the slowdown in earnings and the dysfunction at the heart of government, the US stock market has continued to enjoy a strong start to 2019. Since Christmas, the S&P 500 has risen more than 300 points to 2,670 as investors have focused less on domestic events and more on evidence that the ongoing trade dispute between the US and China may be solved. At the very least, the two sides are talking, which represents progress of sorts.
Dysfunctional government is a recurring theme at the moment, with the situation on this side of the Atlantic no better than in Washington. Last week, the government suffered its worst-ever defeat in a parliamentary vote as MPs voted down Theresa May’s withdrawal deal with the EU. The scale of the loss, 230 votes, was unprecedented for a non-trivial vote and led within 24 hours to a vote of no-confidence in the government.
As expected, Theresa May survived that vote because although many in the Tory party fear a no-deal Brexit, they fear a Labour government even more. They were happy to vote against the government on Tuesday but to support it on Wednesday when the result of continued rebellion might have been a general election and a possible victory for Labour’s avowedly socialist leader Jeremy Corbyn.
The way ahead for Brexit remains uncertain, with Theresa May seemingly unwilling to put clarity for the country as a whole ahead of what is left of the unity of her party. Labour, too, has singularly failed to grasp the opportunity presented by a government in disarray, split by its own divisions on Brexit. Meanwhile the clock ticks inexorably towards the 29th March departure date.
The uncertainty in the UK around Brexit was underscored by the latest World Economic Outlook from the IMF. In the new update of this twice-yearly report on the global economy this week, the IMF said it had left its forecast of British growth of 1.5% unchanged but with the caveat that there remains ‘substantial uncertainty’ around its prediction.
Despite the political and economic uncertainty, the counter-intuitive attractions of the FTSE 100 are increasingly evident. These were confirmed by a new report showing that British companies paid almost £100bn in dividends last year, the second record year in a row, as businesses continued to reward shareholders even as their share prices fell in 2018.
Banks were in focus. Royal Bank of Scotland paid its first dividend in 10 years and Standard Chartered its first pay-out in five years. Barclays saw its dividend jump by 24% in the fourth quarter of the year. But the biggest growth in dividends came from the mining sector, which paid out £11bn, a 66% rise.
According to Link Asset Service, which conducted the survey, UK shares are now offering a forward-looking yield of 4.8% compared with a 30-year average of 3.5%. That reflects higher pay-outs but also the 13.3% slide in the FTSE 100 in 2018 and 9% fall in the FTSE 250. If only a solution to the Brexit dilemma could be found, the UK stock market might be seen as the world’s most compelling contrarian buying opportunity.