WeekWatch – ‘Financial markets are weighing up what the investing landscape will look like months from now’ March 2021
The major US stock indices were choppy again last week, led up and down by the same themes that have been driving markets over the past few weeks.
As the world economy prepares to reopen thanks to vaccine successes, financial markets are weighing up what the investing landscape will look like months from now. The expectations are that a resurgence of economic activity will bring higher inflation, eventually causing governments and central banks to reverse the policies that have supported asset prices – and which have gone into overdrive since the pandemic took hold last year.
Forecasters are predicting that higher inflation will return once the economy begins to reopen, raising the prospect of higher interest rates. The Federal Reserve (which sets US rates) said last week that it doesn’t expect to raise interest rates until 2023, which appeared to soothe concerns in the immediate aftermath of the announcement – with US stocks closing higher.
On Thursday, there was another sell-off in the US government bond market. This appears to have caused some investors to exit their positions in high-growth and technology stocks – contributing to a 3% slide in the technology-heavy Nasdaq index on the day.
By the end of the week, however, technology shares had settled for the time being. They rose on Friday while the wider US stock market fell slightly.
Growth, inflation, and interest rates were also being discussed by UK policymakers last week. The Bank of England upgraded its UK economic outlook, but also said that it won’t raise its historically low interest rates in the near future.
The Monetary Policy Committee, which sets interest rates, said that it wouldn’t change either the main base rate or the volume of quantitative easing. It stressed that rates won’t go up until it sees inflation staying above 2%.
Futures markets are predicting a modest rate increase next year, although Capital Economics believes it won’t happen until later than that.
“We think the markets have gone too far in expecting interest rate hikes from mid-2022. We think that rates won’t rise above their current rate of +0.10% until 2026,” wrote Ruth Gregory, Senior UK Economist.
For savers in the UK, this means that returns on cash are unlikely to improve much for the foreseeable future. Indeed, in the 12 months since the two emergency base rate cuts at the start of the pandemic, average savings rates across all accounts have continued to fall. With the probability that the era of record- low interest rates will stretch well into this decade, those who are overly reliant on cash savings face a real threat to their long-term financial security.
Meanwhile, officials from China and the US met last week for the first high-level discussions between the two powers since Joe Biden took office. The meeting was tense, with both sides using their public opening remarks to criticise the other.
The meeting highlights how the relationship between China and the US will remain a driving force of markets for years to come.
While COVID-19 has been the most urgent problem for governments since last year, and has been the single biggest factor affecting markets, it’s likely that US–China tussles over trade, technology and politics will become centre stage in the not-too-distant future.
One of these flashpoints may be over the island of Taiwan. The small East Asian nation is seen by China as a breakaway province that will one day be reunited with the mainland again. It is also the world’s leading producer of semiconductors, which are an important feature of microchips (and therefore lots of different technological devices).
Last week, Samsung Electronics warned that there is a “serious imbalance” in the world’s semiconductor industry. The Korean company, which is the world’s largest computer chip manufacturer, said that the shortage is affecting its operations.
The news has renewed concern around the world about chip shortages, which have already affected car manufacturers this year and could cause problems for many others.
“Semiconductors have become the new oil,” said Ajay Krishnan from Wasatch Advisors, manager of the St. James’s Place Emerging Markets Equity fund, adding: “They are the key factor of production for the modern economy. Everything grinds to a halt if you don’t have access to them.”
For active managers, however, he believes that the unknowns surrounding these supply issues could be a good thing.
“It isn’t completely clear how all this will play out, but we think it presents opportunities as well as challenges.”
Columbia Threadneedle and Wasatch Advisors are fund managers for St. James’s Place.
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