Different this time

The transition from one decade to the next should be of no concern to financial markets. There is no reason for share prices to distinguish between any ten-year period and the one following it. So, it is just a coincidence that the Japanese stock market peaked on New Year’s Eve 1989 while the FTSE 100 did the same on the last day of 1999. It is also a matter of chance that the market should have bottomed in 2009. There really is no rational reason to be worried as we approach the end of 2019 with markets at new all-time highs!

It has indeed been a long bull market since investors emerged dazed from the wreckage of the 2008 financial crisis. But it has also been a long, slow recovery which has been characterised by persistently subdued sentiment. The fact that a bull market is long in the tooth does not necessarily imply that its days are numbered. Remember, markets rose without serious interruption (OK, the 1987 crash was a bit hairy) between 1982 and 2000.

As the first of the charts below show, investors are not exactly celebrating the market’s new highs. Compared with the dot.com boom years, or even the period just before the credit crunch, there is a notable lack of exuberance – sentiment is neither particularly bullish nor bearish. Against a backdrop of sovereign debt crises, trade wars, austerity and other geo-political stresses, no-one has really believed in the bull market of the past ten years.

This is remarkable when you consider its scale. The S&P 500 has risen five-fold since 2009. The past decade has been a fantastic time to be an investor. Partly, this is due to the depressed starting point – the price you pay at the outset is always the most important determinant of investment returns. Partly, too, it is a reflection of the extraordinary intervention in the past ten years by the world’s central banks, which have flooded markets with liquidity – the second most important driver of markets.

The lack of enthusiasm means that markets have delivered decent returns without ever ringing top-of-the-cycle alarm bells. The PE ratio chart below on the right shows that the US alone has become noticeably more expensive in recent years. Valuations elsewhere have remained within reasonable bounds. The third chart, showing growth in the global economy, explains why this has been so. Government and central bank stimulus have kept the show on the road for ten years, allowing companies to continue to grow and deliver the earnings that ultimately drive share prices higher over time.

Politically, it has been an extraordinary decade. We may be witnessing one of those sea-changes that former UK Prime Minister Jim Callaghan said come along every 30 or 40 years. The end of globalisation and the rise of a new protectionist world, the replacement of one cold war with another. But this need not worry us as investors, as long as capitalism is allowed to continue doing what it does well (improving most people’s lives) and can be restrained from its worst excesses (destroying the planet that sustains it).

US investor sentiment

Source: Refinitiv, as at 27.12.19.

Past performance is not a reliable indicator of future returns. Overseas investments will be affected by movements in currency exchange rates.

 

The world in 2030 – what comes next?

So, we enter the new decade on the back of a 1990s-style bull market, but without the millennial over-exuberance that warned us that the dot.com bubble was ready to burst. What do the next ten years hold for investors?

From a market perspective, I suspect it will be a less exciting period for the simple reason that the most important market in the world, Wall Street, is unlikely to re-rate much higher from here on a sustainable basis. Further progress for shares will reflect earnings growth not materially higher multiples. While I am confident that the next decade will see its fair share of productivity gains and technological leaps, profit margins are already high, and wages have been kept in check for a long time. If you were hoping for strong returns to shareholders, you might not choose to start from here.

As for bonds, the long retreat from the historically high yields in the early 1980s has run its course. As fiscal policy picks up the baton from central back action in the years ahead, I would expect yields to rise again. Indeed, it looks as if the inversion of the yield curve in the summer was a flash in the pan. Normal service (long yields higher than short ones) has resumed.

Some things we can be pretty certain about in the coming years. One is demographics. The global population is expected to reach 8.5 billion by 2030 and perhaps 10 billion by the middle of the century. Populations in the developed world will also continue to age. Grandparents will outnumber children as life expectancy continues to extend. Demographic change – the rise of the middle class in the developing world, the dominance of tech-savvy Gen Z-ers, the increase in age-related health spending – will be a key investment theme of the next ten years.

So too will be the emergence of climate change as a key financial and investment risk and of moral concerns as a more ‘aware’ generation inherits wealth and chooses to invest it more thoughtfully. Women are expected to control ever more money as the gender gap closes. Impact investing will move to the mainstream, with nine in ten millennials believing that business success should be measured by more than just financial performance.

A huge influence on markets, just as it has been over the past ten years, will be technology. We will interact even more frequently with online devices, of which there might be 500 billion by 2030. Technology will fuel economic growth and productivity but present us with ethical challenges as the boundary between man and machine becomes ever harder to distinguish.

But perhaps the biggest change in the world to come will be a reversal of the dominant trends of the past few decades towards unrestricted movement of labour, goods and capital. Globalisation has shaped the world we live and invest in today. Tomorrow’s world may be more regional and national in nature. The internet may splinter into one US-dominated and one China-led domain. This world may be less favourable for financial assets than real ones like commodities, land and precious metals. Of course, this won’t happen overnight, but it could be another reason why stock markets will face more headwinds than they have in recent years.

Valuations: only the US becoming more expensive

Source: Refinitiv, Fathom Consulting, 31.12.19.

Past performance is not a reliable indicator of future returns. Overseas investments will be affected by movements in currency exchange rates.

Global GDP: steady growth

Source: Refinitiv, as at 27.12.19.

Overseas investments will be affected by movements in currency exchange rates.

Fund picks: how we did in 2019 and where next?

Last year’s four fund recommendations could not have been timed better. The stock market performed a dramatic U-turn at the beginning of 2019, and it would have been hard not to pick some winners in a year when most investments performed well.

The four I chose certainly delivered a decent return. I hedged my bets in the UK market by backing Nick Train’s Lindsell Train UK Equity Fund, which I thought would benefit from any recovery in the out of favour domestic market while being protected from further Brexit uncertainty thanks to its quality focus. The fund rose by 22.8% in 2019.

Expecting dividend yields to continue looking attractive in a year when interest rates would probably pause and hopefully fall, the Fidelity Global Dividend Fund made the list. Again, this was a defensive play that paid off, up 20.5% over the year. The same cautious thinking lay behind my third pick, the Fidelity Select 50 Balanced Fund. Ayesha Akbar’s multi asset fund did what it is designed to, mixing equities and bonds to deliver steady capital growth, up 12.4% by the year-end.

My final recommendation was a valuation play. Japan was very out of favour at the end of 2018, which looked like a good opportunity to invest in the high-quality Baillie Gifford Japanese Fund. It ended the year 18.5% higher than it started.

Looking forward to 2020, I am adopting an even more cautious stance as markets are so much higher this year than last. Two of last year’s picks – both the Fidelity funds – make the cut again and I make no apology for that. There is no need to chop and change for the sake of it and I expect both of these defensively-managed funds to perform well again.

The two new options include another UK fund to replace Lindsell Train (which was removed from the Select 50 towards the end of 2019 on valuation, size and concentration grounds). This year’s play on the over-sold UK market is the Liontrust UK Growth Fund, a middle of the road fund which should do well whichever of the growth or value styles prevails this year. The final pick is the Artemis Global Emerging Markets Fund, which looks for shares with good growth prospects, at a reasonable price and with a catalyst for an upward re-rating.

Please remember past performance is not a reliable indicator of future returns.

2019: a good year to be invested

 

% (as at 31 Dec) 2014-15 2015-16 2016-17 2017-18 2018-19
Baillie Gifford Japanese 11.9 33.9 26.6 -12.6 18.5
Fidelity Global Dividend 9.0 22.6 6.6 2.2 20.5
Fidelity Select 50 Balanced - - - - 12.4
Lindsell Train UK Equity 11.5 11.3 20.7 -1.1 22.8

 

Past performance is not a reliable indicator of future returns. Overseas investments will be affected by movements in currency exchange rates.

Source: Morningstar, 27.12.19, bid to bid with income reinvested in GBP terms. Excludes initial charge.

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