Market outlook: fair to sunny with a chance of thunderstorms
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While relatively optimistic on how financial markets will fare over the next 12 months or so as the world emerges from the pandemic, financial analysts say there are a handful of risk factors that could potentially derail growth. They are: inflation, the actions of central banks in withdrawing the stimulus that was needed last year to prevent an outright global depression, tightened regulation in China, and geo-political tensions that the pandemic appears to have exacerbated.
Speaking at the recent Morningstar Investment Conference on a panel discussing investment outlook, Chris Freund, co-head of SA equity and multi-asset at Ninety One, said the big issue right now was clearly inflation. He said investors were in different camps on this. “Are you in the transient camp – in other words, inflation is going to fade quite soon, like the US Federal Reserve believes? Are you in the camp that believes inflation will persist for slightly longer and then turn transient? Or do you think there's a genuine inflation problem?”
Freund said the markets seem to have taken the view that inflation won't be a systemic problem “a la the late 1970s early 80s”, but will roll over once industries that have been disrupted by the pandemic, such as airlines and the hospitality industry, have recovered.
“We are in the camp that inflation might go on for a bit longer because of the supply-chain issues, but ultimately it won't be a problem,” he said.
Freund said the key variable to watch was wage-price pressure, because “that was what tipped the 70s into a real problem”. If workers put pressure on companies to raise wages without productivity levels also rising, this would fuel inflation.
“On the growth side, our base case at the moment is that we are close to viewing the coronavirus pandemic in the rearview mirror. We'll know in six months’ time whether this is right or wrong, but through a combination of herd immunity and vaccinations, the world is getting quite close to a place of just living with a lower incidence of Covid going forward, and with this view we think there will be reasonably robust growth globally later this year and into the first quarter of 2022.”
Freund said interest rates were another big variable. “Possibly in the second half of next year the Fed will begin to ratchet up rates, like they did gently in 2005-7, but not enough to upset the apple cart.”
He said that although the strong burst in growth in the equity markets was now over, his team was of the view that equities will still outperform the other asset classes, albeit with periodic setbacks.
Freund warned against what could go wrong. “One is if growth/inflation is too strong and the markets form the view that the Fed is behind the curve. Then bond yields will rise and equity markets as a whole will get very hurt. The alternative is that the growth fades quite fast and there are worries about a global recession. In that case the dollar will get stronger, the emerging market currencies will get weaker, and then you want a portfolio filled with rand hedge stocks.”
Another speaker on the panel, Chantelle Baptiste, senior equity analyst at Fairtree, believed inflation will be with us for longer. “We're being cautious on global inflation, specifically US inflation, because if you look at the housing prices and rentals, they are going up quite significantly. Also we think there's quite a lot of tightness in the labour market. To really incentivise workers to get back into their jobs and into their roles, you're going to have to pay them a lot more. So we think higher inflation will be a bit longer than just transitory.”
Baptiste also raised the issue of geopolitical risks. She said the tensions between the US and China were continuing and the globe was generally an “unhappy” place.
“There's this phenomenon in the world where everything is very polarised. I think the isolation, social media, has really accentuated it. Before lockdown we'd come together, even people with opposing views would come together, at various events, and you'd have a better understanding because you're talking face to face. Now it's the extremists who have the loudest voice and are very noisy. I think this polarisation will continue to create social unrest across the globe, not just in the US. Emerging markets too – we saw it with the rioting here.”
Baptiste said there appeared to be widespread discontent at how governments handled the pandemic. “The governments treated us like children during the pandemic, and now they are being blamed when there's no chicken on the shelves in the UK, when you're not getting petrol in your car, or when foreign migrants come in and take your job.”
On the subject of increased regulation in China, which is causing jitteriness in the markets, Baptiste said: “If you ask whether this regulation will permanently dent growth in the markets, our answer is probably no. But we do think there will be noise for some time. So anything with exposure to China over the next 18 months or so is going to be volatile, but if you can stomach that there is probably a lot of money to be made.”
Local stock market
Turning to the local market, Shaun le Roux, fund manager at PSG Asset Management, told the Morningstar conference that there was great value to be had on the JSE if you knew where to look. “There are many fantastic businesses in South Africa and every now and then they go on sale, and in March last year everything was on sale and we were like kids in a candy store rushing to grab what we could. We had a massive recovery, but the fact is that most stocks on the JSE have been in a long protracted bear market and the macro-economic environment hasn't been supportive. Yet the companies have done okay, and we think they'll do very well from here, and they're dirt cheap, and if you're a differentiated stock picker, this is as good as it gets.”