In this week’s market update: shares push higher in a perfect storm of positives; the pound heads towards $1.40 on re-opening hopes; and commodities are flavour of the month.
Hope springs eternal, they say, and optimism is certainly the dominant mood as the days lengthen and we look to put a grim winter behind us.
You don’t have to look far for reasons to be positive about the market outlook. The good news is queuing up for investors’ attention. The consensus is now that the rest of 2021 will deliver a strong economic recovery and a continuing market rally.
Top of the list of reasons to be cheerful is the reversal of the Covid curve. Here in the UK, the white patches on the government’s official coronavirus map are spreading across the UK. White means fewer than 3 cases reported in the previous seven days and the data is suppressed to protect identities. Effectively it means that the area concerned is free of Covid, for now at least.
In the US, the number of of hospitalisations has plunged too. In a month or so the number of hospital beds being used for Covid patients has halved from about 20% to 10%.
In part that reflects the success of lockdown measures, but vaccinations are starting to play a key role too. The US has gone from zero to 50m jabs in just a few months. Here in the UK, we have vaccinated 15m. All the most vulnerable people and the over-50s should have been inoculated by May. No wonder the libertarian wing of the Conservative party is putting pressure on the Prime Minister to remove restrictions completely by the end of April, with pubs and restaurants re-opening at Easter.
The third reason to be optimistic about the market outlook is ongoing fiscal stimulus, notably in the US where even a watered down version of Joe Biden’s proposed $1.9trn package would take the total spend during the pandemic to $5trn or 25% of US GDP. That is massive and unprecedented.
Reason number four is the strength of the likely boom in economic activity when we are let out to play again. It is hard to exaggerate how fed up people have become cooped up at home. Maybe the roaring twenties analogy is overstating it, but it is totally reasonable to expect a bumper summer for parts of the retail, leisure and travel sectors.
Reason number five is that the good news is being picked up in the corporate results data rather more quickly than anyone expected. Earnings are forecast to rise by 23% this year after a 12% fall in 2020. Revenues rose by 1.3% in the last three months of 2020 while profits were up 3.4% in the same period. That followed just three quarters of contracting profits, a much quicker recovery than forecast.
And all of this is happening against a backdrop of continuing central bank accommodation. When the economy picks up pace, inflation fears rise and governments have opened their cheque books, central banks usually start to think about removing the punch bowl of monetary stimulus. There is no sign of that happening this time around. We will get some further insight into the Fed’s thinking this week as minutes of the US central bank’s last rate-setting meeting are released.
This is all reminiscent of the combined fiscal and monetary support operation when America’s wartime spending boom was funded by the financial repression of the 1940s. That was accompanied by a stock market boom, and in due course an inflation boom, although rising prices in the real economy were some way behind those in the stock market as they tend to be.
Of course, history does not repeat itself but with so many positives stacked up one on top of the other, it is not hard to argue against those who say the markets have overcooked things already.
So just to catch up on the latest numbers. The S&P 500 was closed on Monday this week for Presidents Day. But it ended last week at 3,935, so within a couple of good days of breaching the 4,000 hurdle. Obviously, this is an arbitrary figure and as the market rises each extra 1,000 points becomes proportionately less important, but it is worth noting that we only rose above 3,000 in the summer of 2019. It took five years to go from 2,000 to 3,000 and 15 years from 1,000 to 2,000.
Elsewhere, Japan is on a roll too. The Nikkei 225 index has surpassed 30,000 for the first time since 1990, shortly after the peak in the Japanese property and stock market bubble of the 1980s. Japan’s economy is finally picking up, rising 3% in the fourth quarter, again much more than analysts had expected. Japan is more exposed than almost any country to a pick-up in global growth.
Perhaps unsurprisingly markets hitting new highs is becoming self-fulfilling as investors seek to jump on the bandwagon. A record $58bn flowed into stock market funds in the week to last Wednesday but money is also pouring into bond funds as cash is finally put to work.
The UK has been a notable laggard during the rally from the pandemic lows, although it has picked up the pace since November on the back of an apparently more successful roll-out of vaccinations than most other countries have managed. That has helped the FTSE 100 push ahead to just over 6,700, which compares with a low last March of briefly less than 5,000 and of just 5,500 as recently as three months ago.
The bigger beneficiary of optimism about the UK economy has unsurprisingly been the more domestically focused FTSE 250 index, up about twice as much - 12% versus 6% for the FTSE 100 - in the past three months. Also on a roll is the pound, which this week reached $1.39, up 6% on this time last year. The pound has been boosted by dwindling expectations that interest rates in the UK could head below zero. Although the Bank of England has warned banks to be ready for negative rates it has also been clear that they may not be necessary.
That more positive outlook was confirmed this week by news that the UK economy has avoided a technical recession, comprising two consecutive quarters of negative growth. Although the current lockdown will undoubtedly push the UK economy backwards in the first three months of the year, we managed to eke out a modest rise in the final quarter of 2020.
The asset class that is really in focus at the moment, however, is commodities. Again this is unsurprising given the expectations of rapid growth and a likely pick up in inflation. These are the conditions that usually favour commodities and the last year has seen significant gains for a number of key metals, as well as for the oil price.
Copper, for example, is up 80% since the March market low. Zinc is more than 50% higher. This week tin rose to a seven-year high, partly on the back of demand from circuit board manufacturer which use the metal to make the solder that links components on the boards. Tin is 70% higher than its low point last year.
As for oil, which lets not forget traded briefly below zero in April last year, the talk is now of further gains from today’s price above $60 a barrel for the Brent contract. As with all commodities the price rise is a combination of rising demand and limited supply as low prices have removed the incentive for oil companies to dig new wells. The OPEC cartel, in particular, has been disciplined about limiting supply in order to support the price at economically viable levels.
One last commodity worth watching today is gold, which has slipped back from its recent highs above $2,000 an ounce. One of the key drivers of the gold price is the real, or inflation-adjusted, level of bond yields. A low, even a negative, real bond yield is good for gold because it reduces the opportunity cost of holding an asset which pays no income. With inflation expectations starting to rise and nominal bond yields remaining low thanks to central bank buying, the real yield is falling and gold is starting to look cheap on that measure again at today’s price of under $1,800 an ounce.
And finally, a contrarian investment idea. One region that has been strongly out of favour recently is Europe ex-UK. JP Morgan commented this week that a survey of investors showed just 3% expecting Europe to be the best performing market this year. Three times as many thought the US would be despite it trading at a significantly higher valuation multiple. Europe is, a bit like Japan, highly exposed to a pick-up in global trade. It is a big exporter, especially of the capital goods and luxury products that are expected to be in demand. It is also a big player in green technologies that will benefit from America’s build back better fiscal stimulus. And it has a high weighting in financials, which will do well if interest rates start to rise in due course.