Stock markets around the world

UK

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UK: shares have moved sideways for years

Source: Refinitiv, 31.3.21, in GBP terms

%
(as at 31 Mar)
2016-2017 2017-2018 2018-2019 2019-2020 2020-2021
FTSE 100 23.3 0.2 7.7 -18.4 21.9

Past performance is not a reliable indicator of future returns.

My five fund picks for 2021 reflect three key themes - sustainability, income and what I believe will be a strong year for one of the world’s most out of favour markets, the UK. Recognising that I have been making this case for some time (Liontrust UK Growth was not my best pick last year), I now believe the time has come for our domestic market to pick up some of the lost ground.

The UK has been out of favour for a long time. The Brexit referendum turned many overseas investors off the London market, but it had actually been underperforming well before the vote to quit Europe. With so many good opportunities elsewhere, not least in the US, it was hardly surprising that investors should have shunned the UK.

But this has left the UK trading on a valuation that seems at odds with the country’s immediate prospects. The IMF expects a 5.3% rise in GDP this year, faster than for advanced economies generally. UK shares are cheap, however you choose to measure them. Against earnings, against assets and notably when compared with dividends, even after last year’s cut in payouts.

In the short term, Britain looks like getting a Covid bounce. Leading the race to vaccinate, in Europe anyway, we are poised to see a faster acceleration in growth than in many other countries. In the longer term we can also expect a Brexit bounce. The discount on UK equities has clearly not yet been unwound in the three months since we avoided a disorderly crash out of Europe.

A key question is what the recovery looks like in the UK and that is why I have chosen two different investment styles with which to play Britain’s bounceback. The UK is a more value-focused market, with a weighting towards economically sensitive sectors such as mining, energy and financials. This last area is a particular focus of Alex Wright’s Fidelity Special Situations Fund, with insurers and life assurers representing 15% of his portfolio. These companies play to the ‘building back better’ agenda but trade at bank-like valuations in the single digits.

But this is not the only viable approach to investing in the UK. Aruna Karunathilake manages the Fidelity UK Select Fund with an eye on very different sorts of companies. He focuses on undervalued quality, businesses like Unilever, which he says trades unfairly at a discount to international rivals like Colgate. Or businesses like Next, which stands to pick up market share in the recovery after competitors went to the wall during the downturn.

Sometimes the best investment opportunities are right under your nose. This feels like a unique opportunity to cash in on a long-standing suspicion of our home market. On some measures the UK trades at a discount of 40-50% to other developed markets. That makes no sense when we are poised to emerge more quickly into the post-pandemic world. For once, having some home bias in a portfolio looks justifiable.

Select 50 fund picks: The UK category of the Select 50 has a wide selection of different styles so a mixture of funds makes sense. As well as the two picks mentioned in the main piece here, last year’s pick Liontrust UK Growth and the more value-oriented Jupiter UK Special Situations and Artemis UK Select are worth a look. Before you invest in a fund, please ensure you have read Doing Business with Fidelity and the Key Information Document (KID) relevant to your chosen fund.

US

David versus Goliath

Source: Refinitiv, 31.3.21. Rebased to 100 as at 31.3.20, total returns in local currency

%
(as at 31 Mar)
2016-2017 2017-2018 2018-2019 2019-2020 2020-2021
S&P 500 17.2 14.0 9.5 -7.0 56.4
Russell 2000 24.4 10.4 0.7 -25.1 92.6

Past performance is not a reliable indicator of future returns. When investing in overseas markets, changes in currency exchange rates may affect the value of your investment. 

For much of the post-financial crisis period investing has been pretty simple: make sure you had a big enough exposure to the US and make sure that within the world’s biggest market you were exposed enough to high-growth technology stocks. Looking forward things might just be a bit more complicated.

The first part of the equation continues to make sense. Not only does the US represent more than 50% of the value of global stock markets, it is also at the epicentre of the fiscal and monetary stimulus double whammy. What is effectively helicopter money in the form of $1,400 stimulus cheques can only be good news for the US stock market, especially if much of the money gets channelled directly into shares.

The growth forecasts for the US economy this year are spectacular and corporate earnings are certain to follow suit. It is no surprise in the circumstances that bond yields are pushing higher as investors start to price in a reflationary boom in the second half of 2021 and beyond. Pressure will mount on the Fed as the bond vigilantes test the central bank’s credibility.

This represents a vastly different landscape from the low growth world of the past 12 years. Since the financial crisis, growth stocks, especially in the US, have outperformed value as they have been viewed as the biggest beneficiaries of a low interest rate, tax-friendly environment in which money has been directed at passive funds. All that changed last November when the first vaccines were announced and since the start of this year sectors such as financials and energy have picked up the baton from tech.

The reason for the shift is the sensitivity to changes in interest rates of so-called long-duration growth stocks which derive a high proportion of their earnings and so stock market value from profits expected far into the future. These future profits are valuable today when discounted back using a low interest rate. As rates increase, their present value diminishes - hence the style rotation we have seen.

This is not the only issue facing growth stocks. With governments around the world now trying to rein in the power of Silicon Valley’s big platforms like Facebook and Google, profits are likely to be under greater scrutiny and a break-up of the biggest companies cannot be ruled out.

On the face of it, that is not good for the US market, which is dominated by these shares. But for the stock-picker it offers plenty of opportunity. Cyclical companies are twice as cheap as growth stocks and they stand to benefit from sharply rising profits in an upturn. The US is arguably in a sweet spot as far as the cyclical recovery is concerned, with a vaccine roll-out that matches our own in effectiveness.

Select 50 fund picks: In Tom’s Picks for 2021 our US exposure is via the Brown Advisory US Sustainable Growth Fund. For investors looking for a more cyclical take on the US market, the JPM US Equity Income, Jupiter Merian North American and Schroder US Mid Cap funds may be worth a look. Before you invest in a fund, please ensure you have read Doing Business with Fidelity and the Key Information Document (KID) relevant to your chosen fund.

Japan

Japan: surprising outperformance

Source: Refinitiv, 31.3.21. Rebased to 100 as at 31.3.11 total returns in USD

%
(as at 31 Mar)
2016-2017 2017-2018 2018-2019 2019-2020 2020-2021
Nikkei 225 15.0 15.7 0.9 -8.8 56.7
S&P 500 17.2 14.0 9.5 -7.0 56.4

Past performance is not a reliable indicator of future returns. When investing in overseas markets, changes in currency exchange rates may affect the value of your investment. 

Japan, as we know, is different. Its economy didn’t really shut down in the way that the rest of the world did during the pandemic and things are, if not completely normal, then not far off. Trains are running at 70-80% capacity, for example. Restaurants may be shutting a bit earlier in the evening, but they are still open.

That is not to say that the country has not been affected by Covid. It clearly has. Output fell sharply in the second quarter of last year, bounced back strongly in the second half and is expected to dip again in the three months just past thanks to a winter uptick in infections. While manufacturing surveys are back above the 50 level that separates growth from contraction, that’s not the case for services yet.

But the key driver of the Japanese equity market is not the domestic economy. It is what is happening to demand globally. Track the year on year change in the Topix index with global purchasing managers’ surveys and the correlation is very close. No surprise then that the Japanese stock market has performed so well recently - it is the ultimate play on a global recovery.

Japan is also an extremely cyclical, value-focused market and the recent rally in Japanese stocks has been driven by a huge rotation from growth, momentum and quality styles towards cyclical value plays. As in the rest of the world, however, there is some catching up still to do. Growth has ruled the roost for a long time.

Japanese value shares are closely correlated also with movements in US Treasury yields. The recent uptick in 10-year yields has mirrored the outperformance of value over growth. This is worth watching carefully if deciding which of the Japanese funds on our Select 50 to use for an exposure to the Tokyo market. The Man GLG Japan CoreAlpha Fund is a contrarian fund with a value tilt. It invests in out of favour stocks and will be expected to outperform when value as a style is in favour. It has done particularly well in recent months, reversing a weak longer run performance.

Looking at the Japanese market as a whole, valuations are far from demanding. Looking two years out, the Topix index trades on less than 15 times earnings compared with around 18 for the S&P 500. The average price to book value of Japanese shares is just 1.4 against 2 in Europe and the rest of Asia and 4 in the US.

Other reasons to look at the Japanese market today include the recent weakening of the yen. This makes Japanese exports more attractive but also offers the possibility of some currency gain if exchange rates revert to recent averages. Overseas investors are also returning but positioning remains light. There’s scope for fund flows to help this year too.

Japan is a curious market. Always seemingly out of favour, it has actually kept pace with the US market over the past 10 years, coinciding with the start of a more business and market-friendly environment under former Prime Minister Abe. It is worth a place in any portfolio, especially ahead of a pick-up in global economic activity.

Select 50 fund picks: It is definitely worth putting your eggs in more than one basket when it comes to Japan. The three funds on the Select 50 are very different in their approach and will perform in different market conditions. The Man GLG CoreAlpha Fund is enjoying a value rally today but we think the Baillie Gifford Japanese Fund is well managed too. Before you invest in a fund, please ensure you have read Doing Business with Fidelity and the Key Information Document (KID) relevant to your chosen fund.

Europe

Still some catching up to do

Source: Refinitiv, 31.3.21. Rebased to 100 as at 31.3.19, total returns in USD

%
(as at 31 Mar)
2016-2017 2017-2018 2018-2019 2019-2020 2020-2021
MSCI Europe 10.5 15.1 -3.1 -15.0 45.7
S&P 500 17.2 14.0 9.5 -7.0 56.4

Past performance is not a reliable indicator of future returns. When investing in overseas markets, changes in currency exchange rates may affect the value of your investment. 

European shares have lagged those across the Atlantic but they, too, have enjoyed a good year since the market lows in March 2020. Increasingly a strong growth outlook is priced into the region’s shares and the sustainability of today’s market levels will depend to a large extent on whether the recent upsurge in Covid infections can be brought under control and an acceleration in the vaccination programme can be implemented.

Relatively speaking, Europe’s prospects may start to look better as the year progresses because its recovery has probably been delayed but not seriously impaired by the return of the virus. Europe is likely to be one of the few regions in the world to post higher growth in 2022 than this year. That coupled with the region’s exposure to the global reflation story, thanks to its important export sector, positions its stock markets reasonably well despite their run over the past year.

The contraction in earnings last year, at 27%, was no worse than average for an economic downturn. And, looking ahead, growth is pencilled in at 30% this year and 20% in 2022. That should underpin share prices, especially given the continuing policy support as the regional recovery fund kicks in. Shares in Europe look reasonable value when compared with the region’s low-yielding bonds.

As in other markets, cyclical plays look like the place to be positioned. Banks and energy, important sectors in European markets, look attractive. Banks, in particular, do well as bond yields rise and the sector is enjoying strong earnings revisions.

Select 50 fund pick: We like the look of a new entrant to the Select 50, the Comgest Growth Europe ex UK Fund. It focuses on high-quality growth stocks and holds shares for the long run so it could hold up well if the recent rise in infections delays the recovery until next year. Before you invest in a fund, please ensure you have read Doing Business with Fidelity and the Key Information Document (KID) relevant to your chosen fund.

Asia and Emerging Markets

Emerging Markets track commodity prices


Source: Refinitiv, 31.3.01 to 31.3.21, total returns in USD

%
(as at 31 Mar)
2016-2017 2017-2018 2018-2019 2019-2020 2020-2021
MSCI Emerging Markets 17.7 25.4 -7.1 -17.4 58.9
CRB Commodities 9.4 6.4 -3.9 -32.5 52.0
S&P 500 15.2 14.0 9.5 -7.0 56.4

Past performance is not a reliable indicator of future returns. When investing in overseas markets, changes in currency exchange rates may affect the value of your investment. Investments in emerging markets can be more volatile than other more developed markets

A strong case can be made for emerging markets, despite relatively strong performance already during the pandemic period. The first reason to be positive is that emerging markets are well placed to benefit from improved economic momentum around the world. Export data in China and Korea are positive and domestic demand is rising in Brazil, India and Russia.

In terms of valuation, emerging markets look to be at the top end of the long-term range but this reflects the increased weighting of Chinese technology and internet stocks. These companies have a more sustainable earnings profile than the old economy stocks that used to dominate the index and distort the historic comparisons.

Although the dollar has strengthened recently, the high level of the US fiscal deficit could see the US currency weaken from here, which tends to be a positive for emerging markets. This trend is likely to continue thanks to a widening differential between the resolutely dovish Federal Reserve and the hiking that’s emerging in places like Brazil, Russia and Turkey.

Finally, the link between commodity prices and emerging market stock markets could be a key factor as stimulus, supply constraints and the transition to a greener economy drive demand for natural resources. Emerging markets tend to have greater exposure to cyclical, value sectors such as commodities so they are well placed for a rotation of market leadership.

 

Select 50 fund picks: We like the Stewart Investors Asia Pacific Leaders Sustainability Fund, which focuses on ‘socially useful’ large and mid-cap companies. Last year’s pick, the Artemis Global Emerging Markets Fund, has regained momentum after a slow start early in the pandemic. Before you invest in a fund, please ensure you have read Doing Business with Fidelity and the Key Information Document (KID) relevant to your chosen fund.

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