Day after day, day after day,
We stuck, nor breath nor motion
Thus did Samuel Taylor Coleridge’s The Rime of the Ancient Mariner describe the experience of sailing into ‘the doldrums’, or ‘equatorial calms’, in which different trade winds meet, often leaving ships unable to make progress.
Everyone knows the global economy is in the doldrums just now – the disagreement is over how quickly it might pick up an economic tailwind. An increasing number of commentators, however, believe a V-shaped recovery is now unlikely.
“A slow path out of economic lockdown has seen ongoing downward revisions to growth forecasts, as it becomes increasingly apparent that measures pertaining to social distancing will continue to be disruptive for the foreseeable future,” said Mark Dowding of BlueBay Asset Management, co-manager of the St. James’s Place Strategic Income fund.
Both the Brookings Institution and Pantheon Macroeconomics are now predicting something halfway between a V-shaped and U-shaped recovery – a so-called ‘swoosh’ recovery. But the most notable disagreement at the moment is much broader; it is between the economic data and the stock market. The S&P 500’s current pricing effectively places the likelihood of a recovery within three months at above 80%, while the data puts it close to 20%. How is such divergence even possible?
Data last week showed that prices in the US are suffering from disinflation, freight activity is deteriorating, and private sector employment fell around 22% between mid-February and mid-April. Moreover, consumer sentiment continues to worsen but, thankfully, the rate of decline has slowed.
The S&P 500 slipped last week, on a cocktail on data, forecasts and valuation concerns. However, relative to other global indices, it has performed well of late thanks to two local factors: the level of Fed support, and the index’s high concentration of technology stocks. However, the S&P’s relative success may also mean investment opportunities elsewhere are being missed.
“Almost all the value I see currently is in emerging markets – relative to the US market, emerging world equity has never been cheaper,” said Jeremy Grantham of GMO, which co-manages the St. James’s Place Balanced Managed fund. “Besides, emerging markets now represent around 60% of global GDP and are typically growing twice as fast as developed markets.”
If that growth is in China, however, then the US appears increasingly ready to forgo some of the associated benefits of a close economic relationship – tariffs on trade between the two countries have risen significantly since the back half of 2018.
COVID-19 appears to have accelerated the US’s determination to decouple. “We could cut off the whole relationship,” the president told US media on Thursday. He may have plenty of support. Poll results published by Pew Research Center and Eurasia Group show a very significant rise in US
scepticism towards China and in Chinese scepticism towards the US over that last couple of years. Talk of a ‘great decoupling’ is increasingly commonplace.
China’s economy is now showing some signs of recovery, although figures for jobs, retail sales and export orders offer some cause for concern, and the CSI 300 slipped last week. Industrial production, however, rose last month at double the rate economists had expected, which raises a new question: can China now generate enough domestic demand?
“Things aren’t totally back to normal but, anecdotally, we are seeing some positive signs – a lot of people who used to take public transport have been out buying cars because they don’t want to risk exposure to the virus,” said Alistair Thompson of FSSA Investment Managers, manager of the St. James’s Place Asia Pacific fund. “Online deliveries have been another area of growth. Domestically, consumer staples companies like supermarkets and brewers tend to be doing well – we own China Resources Beer, the largest beer manufacturer with 40,000 employees. The big question is the demand side, with three quarters of the world in lockdown, significant levels of unemployment, and the risk of bankruptcies.”
In Europe, meanwhile, indices declined over the week, with the EURO STOXX 50 and FTSE 100 both down for the trading period. Data for UK GDP showed that the economy contracted by 1.6% in the first quarter of the year – but shrunk 5.8% in March alone. Governments around Europe have taken different approaches to the virus; and those that did impose lockdown are now at different stages of loosening it. However, the societal and economic trade-offs mean that difficult decisions lie ahead.
“I’m not totally convinced that the policy response has struck quite the right balance between the costs and the benefits of saving each life, but it is probably impossible, because everyone’s view is different,” said GMO’s Grantham. “We are interrupting the education of our children, unemployment is off the chart and the failure rate among new businesses will be almost 100%. We have no idea what it will mean to have hundreds of thousands of businesses failing to pay the rent and losing their staff – just failing.”
BlueBay, GMO and FSSA are fund managers for St. James’s Place.
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