We review how prescient our market pundits were in their January magazine predictions for the year now ending.
This year started with the bull market that began in 2009 still going strong. While there was no lack of voices raising concerns about valuations looking pricey, particularly in the US market, other commentators pointed to parts of the world that were supposedly on the up. However, for a while in 2018 the reverse appeared to be true. The US economy was powering on full steam, leading US markets to race ahead, while much of the rest of the world floundered on the back of a strong dollar, growing trade tensions and tightening US monetary policy, among other factors.
However, at the time of writing, at the end of a particularly turbulent October, the early gains of 2018 seen in the US have collapsed. Like nearly every other market around the world, it saw heavy selling during the month. How well did the market pundits and commentators we quoted in the January 2018 issue of Money Observer predict this course of events? Here’s how our experts’ predictions stacked up.
From rally to rout in the US
Gavin Haynes, managing director at Whitechurch Securities, was correct in his forecast that the US’s economic backdrop would prove strong and in general help to hold up markets. He said at the time: “Growth appears to be solid and unemployment low, both of which should support markets.”
Indeed, the US economy roared ahead, with growth coming in at around 4%, the highest seen for years. Meanwhile, unemployment continued to decline and wage growth picked up, and for a while this dynamism supported markets, with indices reaching new highs.
However, Haynes also urged caution. He added: “Our principal concern is stockmarket valuations, which appear to be elevated, while continued low volatility suggests complacency.”
His fears proved well-founded. Although markets reached new highs in 2018, the US has seen two sell-offs that sent markets into correction territory. Markets soon recovered from a February rout, but heavy selling in October resulted in almost flat annualised returns for major US indices.
When it came to individual sectors, many commentators were cautiously optimistic about technology. Angel Agudo, portfolio manager of Fidelity American Special Situations, noted that technology shares have been the main driver of the US market.
He observed that this was perhaps a cause for concern. He said: “Such single-industry representation at the top of the broad-based US equity market is unprecedented and has led to growing concerns that we are in another tech bubble, which could end in a crash.” From a late-October perspective, Agudo’s warnings appear well-founded: the tech-focused Nasdaq Composite index is down by 12% since the start of the month.
At the same time, Agudo warned that markets were not pricing in regulatory risks. This certainly proved true with Facebook. As a result of increased government scrutiny, the company announced changes to its business model that will drag on revenue growth. The social media company’s shares are down about 20% over the year to date. Other commentators anticipated value in other areas of the US market. Adrian Lowcock, head of personal investing at Willis Owen, said at the time: “Financials should benefit from the withdrawal of quantitative easing and rising interest rates.”
Instead, however, the financial sector had a mixed year. The Financial Select Sector SPDR Fund, an ETF that tracks financial firms in the S&P 500 index, largely kept pace with the broader S&P 500 index until late May, when it started to fall behind. By late October 2018, the financial-sector tracking ETF was down by around 7%, while the S&P 500 was roughly flat.
Meanwhile, Darius McDermott, managing director at Chelsea Financial Services, was hopeful for US small businesses. “Historically, smaller firms have outperformed when interest rates rise, and we expect another two or three rises over the coming year,” he said. “If you want a decent chance of making money out of what could be the final stage of the US bull market, I’d suggest that mid and small caps are the places to go.”
For part of the year, that theory seemed to be sound, with the Russell 2000 index of smaller companies outstripping the performance of the S&P 500 between the end of April and the start of October. However, at the time of writing, the Russell 2000 index is down by more than 4% in 2018, compared with the S&P 500’s flat trajectory.
Little love for the UK
Ever since the vote for Brexit in June 2016, UK equities have been broadly out of favour. Few market commentators expected this situation to change anytime soon, because of continued uncertainty as the deadline for the UK’s exit from the EU nears.
Thomas Wells, a multi-asset fund manager at Aviva Investors, said: “I think it’s necessary to follow the herd and remain underweight. There’s simply too much uncertainty over how the Brexit negotiations will develop for tactical risk-taking.”
Alex Wright, manager of the Fidelity Special Situations fund and Fidelity Special Values investment trust, voiced the widely held opinion that “greater certainty over the direction of negotiations between the UK and EU would be welcomed”. This, he hoped, would provide business with more confidence when it came to investment and hiring, positively affecting the UK economy and by extension markets.
However, he proved right in his prediction that gaining such clarity “is probably wishful thinking”. He said: “I expect markets are probably going to have to contend with a more uncertain and volatile backdrop, even compared with 2017.”
Indeed, compared with the index in 2017, when the mid-cap and more domestically focused FTSE 250 index climbed by roughly 15%, the index in 2018 has performed pitifully: it languished for much of the year and was down by about 8% over the year to October.
Many commentators hoped that a pick-up in European economic growth would feed into rising earnings for European firms, which in turn would feed into stronger share price performance.
McDermott noted at the time: “Compared with valuations in UK and US stock markets, European company valuations look attractive and, importantly, earnings are starting to rise.” Oliver Smith, portfolio manager at currency trader IG, said that positive economic indicators should “be positive for share prices as and when they feed through into company earnings”.
Instead, most major European indices are down over the year to date. The Euro Stoxx 50 index, which tracks the largest 50 firms in Europe, has fallen by 10%, while the FTSE Eurofirst 300 index has fallen by about 8%. Individual European indices have also suffered. The DAX, Germany’s blue-chip index, is down by around 12%, while the CAC-40, France’s main benchmark, has declined by 6%.
Much-anticipated economic growth in Europe proved weaker than expected, while European equities have taken a slight hit on the back of Trump’s trade war and a general global wobble.
Also weighing heavily on Europe towards the end of 2018 has been the election of a new, populist government in Italy. Russ Mould, investment director at AJ Bell, flagged up the potential risk the then-upcoming Italian election posed. He noted at the time that it would be “the next big test for the European dream”– and a test it certainly has been. The new government, a coalition consisting of the right-wing populist Northern League party and the left-wing populist Five Star Movement, is currently locked in a battle with Brussels over its proposed national budget.
Jitters in Japan
Back in January, most commentators were largely confident about Japan, which was still riding the wave of optimism that followed Shinzo Abe’s successful re-election in October 2017 (signalling that economic reform would continue). Positivity also stemmed from a strong global economy and promising economic data coming out of Japan. “Prime minister Shinzo Abe’s premiership has ushered in a renaissance in Japan’s stock market,” observed Sarah Whitley, then manager of the Baillie Gifford Japanese trust.
Paul Chesson, head of Japanese equities at Invesco Perpetual, was also positive. He said: “There are several reasons to be optimistic about the near-term outlook for Japan’s economy and equity market.
However, 2018 turned out slightly differently. Economic growth in Japan broadly continued. Despite a small contraction in the first quarter of the year, the country’s economic expansion continued, with second-quarter growth coming in at an annualised rate of 1.9%. But this economic expansion failed to translate into strong equity price growth. Both the Nikkei 225 and the Topix indices started to trend downward in January.
Then in February both indices fell sharply in line with markets around the world. Japanese equities failed to recover and both indices languished in negative territory over the summer.
Following a brief uptick in September, the Nikkei 225 briefly saw positive returns of around 3% for the year. However, Japanese equities, again in lockstep with those in the rest of the world, suffered a major sell-off towards the end of the month. At the time of writing, both indices are in correction territory.
A number of factors were behind this poor performance. Japanese financials were rocked by scandals involving housing loans, and concerns over slowing Chinese economic growth were also a drag on performance. However, the biggest cloud hanging over Japanese equities has been the US’s protectionist turn. As markets tried to grapple with the rapidly escalating trade dispute, Japanese equities took a hit. This was something Chesson had flagged up. He said: “It remains important to closely monitor the external environment, given Japan’s sensitivity to global economic trends.”
- How to play Japan’s demographic decline
Emerging markets mauled
China was an unexpected dud in 2018, ending the run of strong returns it had seen since 2016. This was the result of a slowing Chinese economy and the country’s escalating trade war with the US.
This was foreseen to some extent by our commentators, with Andrew Graham, portfolio manager of Martin Currie Asia Unconstrained, remarking that “geopolitical developments inhabit a zone somewhere between highly confusing and deeply concerning”. However, while there was a rising tide of protectionist rhetoric from the US, the prospect of a trade war between China and US remained theoretical at that point.
Since then the US and China have exchanged harsh words and slapped tariffs on a growing number of imports. At the same time, the US started openly talking about China as a strategic adversary and seeing its economic advance as a threat to US national security, while casting doubt on the future of the international supply chains of which many Chinese firms are a part. Partly as a result, China’s main market indices fell into bear market territory.
At the same time, some of 2017’s darling tech stocks such as Tencent and Alibaba fell out of favour in 2018. Bryony Deuchars, an emerging markets fund manager at Aviva Investors, proved prophetic on this, noting that both firms were likely to struggle in 2018. In the year to date, Alibaba is down by roughly 27% and Tencent by 39%.
It was a torrid year for other emerging markets. Many of our commentators proved quite prescient on this back in January, underlining the danger ahead for the region. Gary Greenberg, head of emerging markets at Hermes, for example, noted at the time that while the current situation “is about as calm as emerging markets get, a shock from the developed world would be felt in emerging markets as well”. The shocks soon came in the form of more interest rate rises in the US, an intensification in the trade dispute between the US and China, and a currency crisis originating in Turkey. The MSCI Emerging Markets index is down by around 20% since the start of 2018.
Our experts’ top three correct predictions
1) Many commentators predicted that rising interest rates in the US would hit emerging markets. They proved correct. Rates rises, among other factors, caused emerging markets to suffer heavy selling over the summer of 2018.
2) They also predicted that Chinese technology stocks would not do as well in 2018 as they had in 2017. This turned out to be prescient, with Chinese tech giants Tencent and Alibaba suffering heavy losses.
3) The mood has turned against tech firms over the past two years. One commentator correctly predicted that this would lead to companies such as Facebook coming under increased scrutiny from governments and regulators.
Other assets prove mixed bag
There was no lack of geopolitical instability and upheaval in 2018. However, anyone expecting that to feed into the price of gold was left disappointed.
Over the year to date, the iShares Gold Trust ETF’s price was mostly stable, but it started to slide from June onwards. At the time of writing, it was down more than 7%.
Oil, in contrast, was a strong performer in 2018, with the commodity continuing to recover from its 2014 slump. On the back of fears about supply from Iran and expectations of continued global economic growth, the price of Brent crude rose throughout the year and peaked at $86.29 a barrel.
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