Expected and unexpected turns of events

2 June 2017

2017 asset class returns up to 31 May

May brought global multi asset class investors a welcome boost of their 2017 year to date returns. With reports of strongly growing corporate profits over the first quarter of the year, global investors appeared happy enough to abandon the ‘Trump Trade’ as the justification for their ‘risk-on’ attitude and embraced the corporate earnings growth dynamic instead. This is not bad, because it is based on hard numbers rather than vague expectations.

Nevertheless, as we also wrote over the course of the month, much of what looks good and promising at the moment is a reflection in the ‘rear view mirror’ of company results and economic data points that lie behind us. If we look ahead, then we can see some headwinds to further corporate profit growth in the form of slowing Chinese growth and a far more lacklustre performance of the US economy than expected. This makes the lofty equity valuations that we have reached as a result of the continued strong equity returns appear vulnerable to any slowing of the anticipated, continued high pace of corporate profit growth. As I wrote last week, we are therefore taking some profits in our portfolios’ and are reducing equity allocations by around 5% across the board until this vulnerability has passed.

In terms of the past week, the UK general election only a week away and president Trump touring Europe and meeting G7 leaders had politics once again firmly dominating the news agenda.

 Anybody who follows Trump closely will not have been as surprised as the press saw it about his cold shouldering of the international community and mannerism that bordered on bullying. German chancellor Angela Merkel conceding - in a beer tent speech - that Europeans should perhaps get used to the idea that old allies like the US and the UK can no longer be relied on to the same degree as before was widely rejected as alarmist, unhelpful and untrue. My take is that with the German general election looming in the autumn, any public speech now is a campaign speech and as such this wasn’t a policy statement but political rallying. External threats tend to benefit the incumbent political leadership not the opposition.

I fear that instead of ‘Making America Great Again’, Trump is swiftly ‘Making America Less Relevant’, because his behaviours are forcing the Europeans in particular to take things into their own hands. Perhaps this is the catalyst or proverbial ‘kick up the backside’ the EU needs to reform itself towards a truly relevant Europe?

Markets didn’t even appear to notice the potentially epochal shift in Global leadership away from the US – not even when Trump announced that the US would isolate itself by leaving the Paris Climate Agreement and join Syria and Nicaragua as the only other non-members.

Political dynamics in the UK saw political uncertainty return with a vengeance, as latest polls showed to many commentators’ great surprise Labour rapidly closing the gap to the Tories. This raises the risk of a hung parliament in which Scotland’s SNP could suddenly be bestowed the role of king maker. While we still judge the probability of such a scenario as low, last year’s surprise referendum result seems to have made anything possible. At the very least it shows that Theresa May might be just as poor at judging public sentiment as her predecessor. A far more politicised younger generation than we have perhaps had since the early 1970s, has made the 8 June 2017 election a far more nail biting event than it ever seemed possible 8 weeks ago.

Markets have already indicated what they think of increased political uncertainty, with £-Sterling falling back to the pre-election‑announcement levels of March. It would be unwise to feel compelled to take a highly defensive position in anticipation of a surprise result, because as last year’s events have shown, markets only react very briefly and then often take surprising turns relative to perceived wisdom.

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