Graham’s Economic Outlook.



Posted on: 3rd April 2014

It has been a bumpy start to 2014.

Emerging market (EM) currencies and equities have come under pressure on several occasions, extreme weather conditions have distorted economic data in the US and the political crisis in Ukraine has raised concerns over Europe’s energy supply. Meanwhile, unease about Chinese financial stability continues to bubble along in the background. Combined, these events have dampened investor sentiment, clipping the wings of risk markets after a buoyant end to 2013.

Despite this, our cautiously optimistic view of the global economy remains intact.

Not only will the adverse effects of poor weather and the Chinese New Year prove temporary but, more fundamentally, easy monetary policy and the reduced pace of public and private sector deleveraging will help support growth. We are also encouraged by the increased contribution of business investment to growth in the major economies at the end of last year.

In general, we retain our preference for developed over developing markets. The US, despite a number of disappointing Q1 data points, should continue to see underlying demand improve through 2014, with trends in fiscal policy, household deleveraging and investment-led growth all moving in the right direction. The UK and Japan are also displaying definite signs of progress although both have question marks hanging over them. Suspicions linger that the recovery in the UK is fuelled by little more than household spending at the expense of household saving, while there seems little sign that Japan is yet to properly address its structural deficiencies. Even Europe, despite the wrenching internal devaluation still going on in its periphery, saw growth accelerate to a two-year high at the end of 2013, with further strengthening expected this year.

In contrast, many emerging markets remain under pressure.

While there has been some stabilisation in foreign capital outflows from some EM countries, questions persist over the severity of vulnerabilities in the region. Many of the fundamentals that have driven capital inflows to EM over the past decade have gone into reverse: monetary policy in the US is starting to normalise, the commodity super-cycle has peaked and countries are no longer gaining export share as rapidly. Indeed, with trend productive growth slowing in many EM countries, there has been a substantial narrowing in the growth gap between EM and developed economies. However, a systemic crisis for EM still seems an unlikely scenario in our view.

Despite our misgivings over EM, our broadly positive view on the prospects for the global economy means there have been no major changes to our House View so far this year. It remains exposed to riskier assets, although emphasising the need for investors to be as focused or granular as possible. The House View is Heavy in equity and real estate, Neutral in credit, emerging market debt and cash and Light in government bonds.

The main equity positions are in the US, the UK and Japan, three economies where economic and profits growth is expected to be more supportive in 2014.

The views and conclusions expressed in this communication are for general interest only and should not be taken as investment advice or as an invitation to purchase or sell any specific security.