Inflation risk is minimal, with expectations coming down in most regions.US data is encouraging, particularly with respect to the ongoing improvement in consumer confidence as well as housing and labour markets. The Eurozone appears stable although it is certainly not out of the woods. In Japan, ‘Abenomics’, Prime Minister Shinzo Abe’s massive stimulus programme, has given the economy a major boost, particularly the export sector.
Potential problems
This year’s stock market rally has been driven by an increase in valuations rather than earnings growth. While valuations remain reasonable, at some point we will need to see profits growth for markets to continue to rise. China's rebalancing effort remains a concern as economic activity has slowed down despite persistently strong credit growth. Increased volatility in Japan needs to be watched closely especially if the push for structural reform wanes.
Rising bond yields
Bond yields (cost of government borrowing) rose sharply over the quarter as the US Federal Reserve indicated that it could start withdrawing, or ‘tapering’, quantitative easing (money printing) in the coming months. Rising bond yields should not be a problem for developed equity markets as in most cases (notably the US) they are a sign of better growth ahead, but some indebted emerging markets may face a difficult adjustment to higher borrowing costs.
Robust company fundamentals
Companies are generally strongly capitalised, generating surplus cash and often supported by attractive dividends. There will be winners and losers at a corporate level. Our job is to find the winners – companies with strong Competitive Dynamics.
First State Global Equities Team
