Weekly Digest

Growing pains

Richard Stutley, CFA

16 January 2018

The growth outlook looks better at the start of 2018 than it has done in recent years. But while ‘growth is good’, investing is about that key confluence between what you’re buying on the one hand and what you pay for it on the other; and markets are currently paying for a lot of growth. While economists and commentators clamour to be heard by making bold predictions, thankfully it’s easy to see what our view is: just look at the portfolios. While prices are high (and in some cases, like US stocks, already extended), the environment remains supportive. We believe the current cycle has further to run and hence we’re staying invested, while at the same time seeking uncorrelated opportunities in order to insulate the portfolios from the inevitable return of volatility.

There’s been a tendency for growth expectations to be revised down in recent years. Bloomberg tracks economists’ expectations for global growth two years into the future; hence today economists are now being asked about their thoughts for global growth in 2020. Consistently in recent years these estimates have started high, before slowly, but with the certainty of a London commuter train running behind time, being revised down. But something changed last year – the expectation for 2017 reported growth started to go up - as did the expectation for 2018.

Growth expectations are up; purchasing managers’ indices are up in all parts of the globe; the balance of countries whose growth is increasing versus those where growth is either slowing or already in negative territory is at its highest level since 2004; company earnings revisions are outstripping downgrades; and the list goes on.

Investing, however, isn’t about good or bad economic outcomes; it’s about what reality brings and how this compares to what you paid. With the price-to-earnings ratio of the MSCI World Index standing at over 22 times, we’re paying a lot for this good news, which leads us to sound a note of caution. The World Bank have suggested that global growth may well have peaked at what is still a fairly modest level by historical standards, due to long term structural headwinds like demographics. And there are nagging doubts about not only the quantum of growth but also its quality. Given the record levels of employment we have currently, why aren’t we seeing runaway growth? Why aren’t we as productive seemingly as we were in the past? And is this growth still being fuelled by too much debt, which has been passed around – most recently from the private sector to governments post the financial crisis – but hasn’t gone away.

Within the Momentum Investment Team, we have a list of 10 tail risks we’re tracking but we believe the current cycle has further to run. With prices higher today than they were 12 months ago (but not yet extended), periodic bouts of weakness will present opportunities to buy. With careful diversification, making use of the increasing range of asset classes which exhibit relatively low correlation with traditional assets, we aim to construct portfolios that should be able to navigate a range of outcomes as we move through 2018.

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