Important information: The value of investments and the income from them, can go down as well as up, so you may get back less than you invest.
Investors may well have emerged from 2020 feeling surprisingly positive. For all the considerable hurdles put before them – most importantly, the deadliest pandemic in over a century – major world stock markets ended last year comfortably ahead and trading at record highs in US dollar terms1.
One might argue this was only made possible because economic cans were kicked further down the road. Central banks continued to help finance government spending to fight the economic effects of last year’s shutdowns by buying government bonds. The ballooning budget deficits of nations resulting from this will have to be dealt with in future years, but there is no political will to do that quite yet.
A Brexit trade deal arrived just in time, but only because negotiators had the good sense to hive off sensitive issues into future talks. One interpretation of the agreement reached is that Britain has regained sovereignty over policies on state aid to ailing businesses and whether or not to maintain alignment with EU environmental and labour standards, but that future divergence could come at the cost of trade barriers or tariffs.
Still, we can take heart from the fact these actions were possible and that a sustained world economic recovery should, at some point, help alleviate the pain of paying for past spending decisions. The devaluation of paper currencies against gold in 2020 – gold rose by about 20% in US dollar terms last year – perhaps gives some idea of the cost so far of protecting jobs and keeping the world economy afloat2.
In economic terms, the die may already have been largely cast for 2021. Growth will be weak for at least the first quarter of the year, as non-essential businesses stay closed and consumers settle in to another period of limited opportunities to spend. The second dip of a double-dip recession in some countries now looks more likely.
That picture could start to improve rapidly at some point later in the year though, after large sections of the world’s populations have received Covid-19 vaccinations and improved confidence plus pent-up demand fuel expectations of a surge in deferred purchases.
Given that stock markets tend to move to discount future events, this outlook should be supportive of equities. 2020 provided a test run of this scenario, with equities performing well ahead of an expected ending of restrictions by the spring of this year.
Tough economic conditions for the many – including elevated unemployment – should ensure central banks and governments continue to lend support through ultra-low interest rates, asset purchases and stimulus spending in 2021.
No one much thought a unified US government – with Democrats in control of both the House and the Senate – was possible at last November’s presidential election; but now it has come to pass after Senate run-offs in Georgia, so too has the possibility of even higher levels of stimulus spending.
That extra spending headroom comes at another price though, as Joe Biden’s strengthened administration may now be able to press ahead with plans to raise corporation tax and intensify the regulation of America’s technology giants much more easily.
Picking stock market winners and losers in 2021 will remain difficult, even in polarised markets. When will “stay at home” technology stocks finally cede their pre-eminent positions to hunkered-down retailers, travel and leisure companies? Will that happen at all?
Certainly there appears to be a good chance some things will never quite get back to “normal”. The Great Reset – coined by the World Economic Forum in 2020 – talks of a new world founded on sustainable businesses and an era of eco-friendly prosperity to follow Covid-193.
The meteoric rise enjoyed by shares in Tesla late last year comes as further evidence of how these ideas can gain traction in today’s markets, even from a starting point of high stock valuations. Inexorably, we are moving towards a world where businesses enabling others to reduce their carbon footprints can justifiably sustain a valuation premium.
However, shares in highly rated technology businesses may face some stiffer competition in 2021, as investors, with a broad economic recovery in sight, become increasingly attracted to the low valuations of economically sensitive (“cyclical”) shares. A sharper than expected economic recovery as vaccines get rolled out could conceivably see technology shares slip down the rankings this year.
Even among value-oriented shares though, there may be great differentiation. A mining company with a dividend yield of 5% will be driven by very different forces than those propelling a European focused bank or retailer yielding a similar amount. As in 2020, actively managed funds will have great scope to add value for their investors over funds passively tracking an index.
In the absence of additional economic threats in 2021 – or a substantial worsening of existing ones – the outlook for bonds looks challenging. While central bank buying will tend to keep yields in check, improving demand conditions in Asia – China especially – and the rollout of government-led infrastructure programmes around the planet suggest inflationary pressures will begin to mount.
For bonds, whose future income payments are generally fixed, the return of inflation would be an anathema. Inflation erodes the value today of future fixed income payments, so making bonds relatively less attractive to investors.
Conversely, conditions this year are more likely to favour commodities – including oil, iron ore, copper, zinc – and the precious metals needed to help build an all-electric, renewable energy future – like silver, platinum, palladium and rhodium. In that respect – and apart from pockets of value among corporate and high yield bonds – commodities may prove a more profitable diversifier away from equities than bonds in 2021.
Owing to this, as well as a weaker US dollar, 2021 promises to be a year of improving conditions for emerging markets. Lower yields on US dollar assets – principally Treasuries – should tempt more investors to seek better returns from higher risk, faster growing countries. A weak dollar also provides emerging markets with more scope to borrow to boost their growth prospects with less fear of a run on their own currencies.
The emerging markets universe presents multiple chances to benefit from the wider themes of 2021, from recovering domestic consumption growth – for example, China and India – to an increased international demand for commodities – Russia, South Africa, Indonesia and others.
For many investors, a global emerging markets fund as opposed to one focused on a single country will continue to make sense. The Artemis Global Emerging Markets Fund, which features on Fidelity’s Select 50 list, fits this description. This fund currently yields about 3.3% on an historic basis, although this level of income is not guaranteed⁵.
Closer to home, the outlook for the UK has improved now light has been shone on the country’s future trading relationship with the EU and the Brexit discount applied to equities since 2016 should begin to unwind. Currently, it’s not hard to find large UK companies across a range of sectors with dividend yields in excess of 5%, which is usually a good indicator of the existence of value.
Offering a dividend yield of about 3.3% overall and trading on 14 times the earnings companies are expected to achieve in 2021, the UK stock market enjoys plenty of catch-up potential in relation to world markets, which offer a yield of 1.8% and trade on 21 times 2021 earnings⁴.
Fidelity’s Select 50 list offers a number of ideas for investing in the UK. The Fidelity Special Situations Fund focuses on businesses undergoing positive change yet to be recognised by the wider market, and has a strongly contrarian style that could do well if the market starts to refocus on economically sensitive businesses. Legal & General and Serco are among its largest investments currently.
The Fidelity UK Select Fund offers a counterpoint, in that it favours businesses with strong brands and robust balance sheets – “quality growth” companies, in other words. A combination of these funds could help investors build a diverse portfolio of UK equities with more resilience than a single investment in either fund alone. Unilever and the plumbing products group Ferguson are among the UK Select Fund’s largest investments.
Five year performance
Past performance is not a reliable indicator of future returns
Source: Refinitiv, as at 31.12.20, total returns in USD terms
1,4 MSCI, 31.12.20
2 Bloomberg, 31.12.20
3 World Economic Forum, January 2021
5 Artemis, 07.01.21
Important information: Investors should note that the views expressed may no longer be current and may have already been acted upon. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. Overseas investments will be affected by movements in currency exchange rates. Investments in emerging markets can be more volatile than other more developed markets. Select 50 is not a personal recommendation to buy or sell a fund. There is a risk that the issuers of bonds may not be able to repay the money they have borrowed or make interest payments. When interest rates rise, bonds may fall in value. Rising interest rates may cause the value of your investment to fall. The Fidelity UK Select Fund invests in a relatively small number of companies and so may carry more risk than funds that are more diversified. The Fidelity Special Situations Fund and Fidelity UK Select Fund can invest in overseas markets, so the value of investments can be affected by changes in currency exchange rates. Both funds use financial derivative instruments for investment purposes, which may expose the funds to a higher degree of risk and can cause investments to experience larger than average price fluctuations. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser.