Resilient economic data in February suggested that a world recession may not be inevitable. While stronger growth may sound positive for investors, it led to markets revising upwards their projected path of interest rates higher. Higher rates reduce the discounted value of future cash flows, which hurts stocks and bonds. To drive the point home, central banks in the UK, EU, and US all hiked rates in the month, and all signalled that despite dropping, inflation remained too high and central banks’ jobs aren’t done yet.
The UK was the top performing region in February, with the FTSE-100 topping the 8,000 mark to reach a fresh record high. The market was boosted by strong returns from oil and banks, and helped by the rising dollar. Despite the strong month, the outgoing boss of insurance giant L&G was pessimistic about London’s prospects, saying there was a “perpetual drift” of companies going elsewhere. He criticised the UK as a “low-productivity, low-growth, low-wage economy fraught by political infighting”. Despite this, our CT UK Equity Income fund, which held several of the month’s winners, beat the market to rise +3.8%.
British shoppers were faced with a dearth of salad vegetables in supermarkets over February. It was a tangible example of how energy prices and labour shortages have impacted the economy. Lettuce doesn’t grow in British fields in the winter, so it needs to be imported from the Mediterranean or grown further north in heated greenhouses. Many growers opted not to cultivate vegetables this winter due to problems hiring pickers and the cost of running heat lamps.
American growth appeared resilient in February, despite a year of monetary tightening and headlines of mass layoffs at large companies, with the latest job numbers and retail sales both surpassing expectations. Inflation dropped to 6.4% in the latest reading. US inflation has been milder than in Europe thanks to the strong dollar and the country’s energy independence. Our CT American fund provides exposure to the strength of the domestic US economy, and it beat the US index to rise +2.1%.
Elsewhere, almost all sectors of the US stock market dropped in February, though the tech-heavy Nasdaq index held up best. Semiconductor giant Nvidia was one of the top performing American stocks, rising over +60% since Christmas as brokers said its hardware know-how gave it an edge in AI. The chipmaker is one of the top 10 holdings in our US tracker fund.
European growth surprised to the upside. The continent was in a gloomy patch in late 2022, but falling energy prices have boosted consumer confidence and industrial production. The PMI index, a survey of business sentiment, indicated expansion had accelerated to its fastest level since last May. It was an environment in which our Montanaro European fund, which holds high quality smaller companies, did well, outpacing the market to rise +3.6%.
Emerging markets had a tough month, as the stronger dollar hit valuations. Clients can rest assured we have zero direct exposure to Russia; the country is a case study in how to ruin an economy. GDP was surprisingly resilient last year, as high oil prices lined Moscow’s coffers. However, sanctions and lower oil prices are now biting. Oil revenue halved in January and the deficit ballooned to $25bn. With no bond market, Putin is raiding Russia’s oil wealth fund, which has been drained by a quarter since Christmas.
China was the worst performing market in February. Geopolitical tensions with the US spooked investors. However, China’s internal economy looked strong, with the services PMI reading rebounding into positive territory. Chinese households stashed away large cash savings during the zero-Covid policy, which they are now beginning to spend.
The Japanese government nominated economist Kazuo Ueda as the next Bank of Japan governor. His term will start in mid-March. Addressing Japan’s Diet, Ueda said the bank should be “creative” with monetary policy and pursue rate normalisation if it appears able to sustain its target. The septuagenarian academic said he was in no rush to change Japan’s ultra-loose monetary policy, promising future decisions would hinge on the inflation outlook.
It can feel illogical for good economic news to be bad for asset prices. But better growth leads to higher interest rates, and interest rates act like gravity on asset prices. Market volatility is inevitable due to uncertainty around the future path of inflation and interest rates. However, both bonds and stocks are cheaper than they were at the start of 2022. There have also been two substantial boons to markets since the autumn – the reopening of China and lower oil prices – which make it easier for the economy to expand without generating inflation. While there is more volatility to come, we believe investors are best served by taking a long term view and staying invested in a diversified portfolio through the ups and downs.