Traditionally this is the time of year for forecasts. The Financial Times used to get some market “experts” to predict where the FTSE 100 would be at the end of the year. Included in the panel was a fox that lived in the grounds of Robin Lane Fox (aptly named) a classicist by training but who also writes the FT Weekend Gardening feature.
Food was left out for the fox and a range of values that the FTSE 100 could end the year at was allocated to each dish, from memory I think four dishes were put out. The one that was eaten, or the fox ate the most of, was taken to be the prediction. In many years the fox beat many of the so-called “experts” and in a surprising number of years actually was the most accurate pundit. The FT no longer runs this exercise. I will also abstain from making a prediction. An old Danish proverb states “never prophecy, especially about the future”.
The reality is this, never in recent memory has so much uncertainty hung over global growth. Which is what drives global equity markets. However, we should at least make an attempt to identify some of the factors in play and attempt to plot a course through these changing times.
Let us start with a look back. When the global equity market realised the full impact of what Covid 19 would mean for the world economy it fell sharply. At one point in March, the MSCI World index was 30% below where it started the year. However, driven by the “rocket fuel” of low government bond yields many indices posted large gains by the end of 2020. Stocks are valued mathematically using various methods, all of which factor in a discount rate which hinges on the 10-year government bond yield. This is used to discount back future earnings predictions to achieve a “present value”. This gives a maximum advantage so so-called “growth” companies – which are the 5 biggest companies in the Standards and Poor 500 – you can guess the names!
Looking forward to 2021 I would make two points – firstly government bond yields are unlikely to go much lower. As life returns to closer to normal the yield curve ( rate of return ) on bonds will move up as central banks rein in the mammoth liquidity pumps and governments begin to tighten the purse strings. This is likely to have a dampening effect on the valuation of growth companies. The second point is that the make up some indices, based on the “old economy”, will have their performance hindered by their makeup. The FTSE ended the year 14% down – due to the fact that it is made up of 17% financials, 12% in materials, 11% in industrials and 10% in energy. The IT element is 1.4%.
However, a recent of survey 200 asset allocators, chief investment officers, investment strategists and economists showed that 71% though global equities would be higher in a year’s time. To misquote one Gordon Gheko “ debt is good! “ - apparently. This creates the risk of “groupthink” where investors display ambivalence towards historically high equity valuations.
There are 3 big factors which will have a great bearing on how markets perform this year. The first, for the UK and Europe anyway, is still Brexit. It is still unclear what will be the implications for the UK and Europe under the new “deal” and there is also much still to be decided. Covid will continue to dominate the headlines. From an economic point of view, the question is how long will the fiscal and monetary support schemes last? It is only when furlough stops that we will see how many people have no jobs to go back to and how many “zombie” firms were propped up by the state. The final factor is the US political situation. Provided Joe Biden survives a possible assassination attempt from any of the “cult” that supports Donald Trump, we expect a less turbulent White House in 2021 – this should be good for America and the World.
Back in May 2020, McKinsey’s made some forecasts for the world economy based on various scenarios of how the Covid pandemic played out. Three in fact, each one less optimistic that the last. In the West we seem now to have entered the third one, “public health response fails to control the spread of the virus for an extended period until vaccines are available". What then you ask? – well to quote the Romans “Eadem Futura” – things will not be as they were before.
But forecasts are not advice. As ever a balanced and diverse portfolio is the best insurance against investment risks. You see good investment strategies do not rely on forecasts.