UNCERTAINTY is a constant feature of financial markets. The key question for investors is what that uncertainty relates to and how big the stakes are.
Looking back at the ‘uncertainty’ of the 2012 to 2016 period, events such as the UK sovereign debt downgrade, the US government shut down and the ‘Taper Tantrum’ were all low stakes events.
On the other hand, recent uncertainty is, and will be, historically significant – how will the US and China relate to one another over the next decade? What will Britain’s future relationship with the EU look like? Is globalisation dead? These are all high stakes issues.
Despite these unknowns hanging over global markets, 2019 was a very profitable year for investors.
The strong returns experienced are explained in part by what came immediately before: with large declines in equity markets, slowing growth and the beginning of a new central bank loosening cycle, the fourth quarter of 2018 may have been the end of the cycle that many investors have been looking for, hiding in plain sight.
The reduction of interest rates that followed in 2019 produced returns in excess of 20 per cent in most major markets, as stocks became more attractive relative to the alternatives.
In the ‘real world’, the heightened uncertainty has led to a more nuanced picture, with companies distinguishing between short term and long term investment decisions.
Buoyed by strong demand from the consumer sector, companies have been willing to take on new workers, as employees can be employed and unemployed relatively quickly if things turn sour.
However, many companies have been unwilling to make capital expenditure decisions, which require longer-term commitments and therefore a higher degree of certainty.
From an investor’s perspective, the more one zooms out from these short term uncertainties, the more predictable market returns become and the higher the probability of generating positive returns. Implementing a long-term investment strategy allows investors to stay invested, even when the outlook is foggy.
An investor’s strategic asset allocation should be a marriage of their long-term objectives and market return expectations. In times of heightened uncertainty, such as last 12 months, it has been prudent to position oneself closer to this strategic asset allocation, by having a full allocation to stocks and bonds, both of which have performed very well.
Investors will be hoping for more clarity in 2020, although that greater certainty reduces potential returns as the risks are necessarily lower. If 2019 has been about central banks’ loosening monetary policy, 2020 will need to be about rising profits, something that has been lacking over the past twelve months.
Two particular factors provide hope and are worth monitoring. The first is the decreasing political uncertainty we have seen over the past month, specifically the issues of global trade tensions and Brexit. In the US, the move towards a ‘Phase One’ deal with China makes a damaging escalation less likely.
In addition, uncertainty about the future of UK economic policy and Brexit has reduced substantially since last month’s General Election. Investors are hoping that these factors combined could unlock pent up capital investment, driving economic growth and profits higher over the next twelve months.
The second factor to watch is fiscal policy. After a decade of global austerity, a loosening of the fiscal coffers is now a consensus item both here and in the US presidential race. All other things equal, government spending feeds through to increased corporate profits. This could be a significant positive for investors in 2020.
:: Jonathan Dobbin is managing director senior adviser at Julius Baer in Belfast
