Investment Comment June 2017
1st June 2017
Markets had a strong month in May, with gains across most regions. The S&P 500 (+1.16%), Dow Jones Industrial Average (+0.84%) and Nasdaq (+3.88%) continued positive runs. The outperformance of the Nasdaq remains a notable feature of performance this year, with nearly a third of index constituents posting gains of over 30% year-to-date. Big risers of 2017 so far include the ‘FANG’ stocks – Facebook (+32%), Amazon (+33%), Netflix (+32%) and Google (+25%) – as well as some lesser-known names – Vertex Pharmaceuticals (+73%), Autodesk (+53%) and Skyworks Solutions (+45%) – amongst many others. The Nasdaq’s seventh monthly gain in May puts the index on its longest streak since 2009.
In the UK, the Top UK 100 Companies (+4.92%) and UK All Companies (+4.36%) were amongst the top performing indices globally despite uncertainty associated with the upcoming UK General Election. European markets in general remained positive, with the World Europe ex UK rising 2.10%. The most pronounced move came from the Greek AT Index (+8.22%), now up 20.47% year-to-date. Sterling stabilized against the US dollar (+0.02%) after April’s appreciation.
Some UK fundamental and sentiment indicators started to weaken. The Office of National Statistics (ONS) revised down its previous Q1 growth estimate from 0.3% to 0.2%. Consumer credit expanded markedly, with credit card borrowing growing at its fastest rate in 11 years (+9.7%), according to figures published by the Bank of England. UK house prices fell in May, bringing the third month of modest declines. UK manufacturing activity – as measured by the Purchasing Managers’ Index (PMI) – dipped from the three-year high experienced in April, but is still indicating expansion. Conversely, activity in UK construction rose rapidly, with the PMI for May coming in at 56 compared to 53.1 in April.
Eurozone economies continued to show improvement. The eurozone manufacturing PMI reached its highest level in over 6 years in May, with average eurozone unemployment hitting an eight-year low of 9.3%. Spanish unemployment declines accelerated, with the jobless rate falling to its lowest level since 2009 at 17.8%, down from 20% last April. Annual eurozone inflation fell from 1.9% in April to 1.4% in May, well below the European Central Bank (ECB) target of ‘just under 2%’. Core inflation – stripping out the effect of energy and food prices – fell from 1.2% to 0.9%. With the ECB’s Quantitative Easing policy still in place (€60bn worth of bonds being bought each month), the drop in inflation will ease pressure on policymakers to end monetary stimulus.
In the US, Q1 GDP growth was revised up from 0.7% to 1.2% by the Bureau of Economic Analysis. The change was driven by upward revisions to nonresidential fixed investment, personal consumption and state and local government spending. Headline inflation (CPI) fell from 2.4% in April to 2.2% in May, whilst retail sales recovered slightly, growing 0.4% month-on-month in April compared to 0.1% month-on-month in March.
Emerging markets suffered some negative news in May. In Brazil, the Bovespa equity index and Brazilian real fell 10% and 8% respectively in one day in the middle of the month after reports that President Michel Temer had been recorded encouraging bribery. Whilst both have subsequently recovered – back to the levels of January 2017 – the outlook remains uncertain. In Asia, the People’s Bank of China announced a change to the way it guides the renminbi exchange rate in a move seen to advance the government’s ability to prevent currency depreciation. Over the following days, the renminbi appreciated markedly, reaching its strongest level since November.
In India, GDP growth figures showed a decline from 7% last quarter to 6.1% in Q1. The construction sector contracted 3.7%, highlighting the impact of Narendra Modi’s ban in November on the use of much of the country’s cash.
Concern in recent weeks has shifted to the outlook for the British economy and to the political uncertainty associated with a national election campaign. As tightening polls have caused volatility for Sterling, we focus on a long-term view. We remain optimistic that the UK can come through the short-term uncertainty associated with Brexit negotiations and perform well in the long-run.
The possibility of a Labour government with the stated aim of increased Government spending funded by higher borrowing and increased tax on businesses and higher earners is concerning for future growth. We note the recently published analysis from HM Revenue & Customs (HMRC) showing an increasing share of total tax paid by the top 1% of taxpayers – from 24.4% in 2007-8 to 27.2% in 2014-15. HMRC further estimate that the top half of earners are already liable for 90.3% of total income tax paid. We question the sustainability of a significantly increased tax burden in a wider environment of economic uncertainty.
In the currently unlikely event of a Labour victory, we would expect weakness in both Sterling and UK stock markets. However, a significant proportion of the revenues of UK-listed companies – c.75% for the Top UK 100 Companies and c.50% for the Top UK 250 Companies – are derived outside the UK, which provides some comfort. Diversified portfolios continue to provide downside protection in the event of economic or political shocks.