After a strong start to the year, most stock markets gave up their short term gains as January came to a close with developed market equities ending the month modestly lower. Emerging markets significantly outperformed however with robust economic data and a moderate winter wave of COVID infections continuing to support markets in Asia. Technical factors were responsible for some of the market weakness at the end of January as several US stocks, where hedge funds had taken short positions to profit from declining share prices, rallied very strongly as a group of private investors co-ordinated a squeeze on these positions forcing the hedge funds to raise capital partly through the sale of some of their other holdings.
These movements are unlikely to be a concern for longer term investors though. Global vaccination programmes and the promise of further fiscal and monetary support are more important factors and should enable markets to continue to overlook any severe concerns about the impact of the virus driven restrictions imposed in many countries including the UK, although the speed at which populations are inoculated will impact the timing of recovery. While the UK and US have made good progress in vaccinating their most vulnerable groups, the record of many other countries has been less impressive and a delay in supplies to the EU increased the possibility that the relaxation of pandemic control measures would need to be postponed for longer than anticipated.
Defensive assets were weaker at the start of the year but as equities came under pressure, government bonds regained some of the losses. In the US, data continues to be mixed with the housing market an area of strength both in terms of construction and rising prices. Less positively, the pandemic is continuing to take its toll on the labour market and December saw declining employment and though consumer confidence has stabilised, it remains below pre-COVID levels. The Democratic control over Congress should provide a boost to US growth prospects for 2021 with the new administration proposing a $1.9tn rescue plan, this in addition to the $900bn stimulus agreed in late December. An interesting element of President Biden’s policies will be the implementation of climate change measures as part of broader fiscal measures to support growth and speed up the transition to a lower carbon economy. This should generate opportunities for investors in several asset classes including renewable energy which has already shown significant gains this year.
Sentiment in the eurozone has taken a turn for the worst with consumer confidence retreating and the new more infectious strains of the virus magnifying the challenge for policy makers as the slow vaccine rollout increases the prospects of a double dip recession due lockdown and social distancing measures remaining in place for longer than anticipated. Eurozone equities continue to be closely linked to the trajectory of the pandemic due to their greater sensitivity to the economic cycle.
In the UK, economic data in the fourth quarter was relatively resilient although growth prospects were impacted in January with the introduction of a further strict lockdown. The vaccine programme has been successful so far by global standards and employment levels have held up better than expected in part due to the Governments furlough scheme being extended to April. The timing of the reopening of the economy will continue to be a key factor in the performance of domestic stocks.
China and many emerging markets have been supported in their recovery by both domestic and external demand, real GDP rose by 6.5% year on year in China which is in line with the longer term growth trend. The strong demand for healthcare equipment and technology has also supported growth with manufacturers able to gain market share as international competitors have been hampered by lockdowns and supply chain disruptions. The strong economic momentum from China is likely to lead to a growth of corporate earnings, although lower levels of stimulus may limit the scope for further equity market growth. Political risk is also a consideration if China’s recent trade successes and human rights issues come under closer scrutiny from the new US administration.
The news flow continues to provide a reminder that governments and central banks are fully committed to support their economies with loose monetary policy and fiscal stimulus until the worst of the pandemic is behind us. We have also been reminded that COVID remains a risk with the more infectious new strains and the possibility that existing vaccines might be less effective against some mutations, although there have been positive signs of preventing transmission and of developments of new vaccines which can provide protection against new strains.
After the strong performance of equities since the introduction of the Pfizer vaccine in November, a pause for breath is not unexpected, there are continued grounds for cautious optimism but a balanced portfolio remains a sensible strategy in this still challenging period of the pandemic.
|2021 Year to Date|
|FTSE World ex-UK (GBP)||+0.59%|
|FTSE Actuaries UK Conventional Gilt All Stocks||-1.67%|
|FTSE Actuaries UK Index-Linked All Stocks||-2.92%|
Performance to 2 February 2021
|Bank of England Base Rate||0.10%|
|Inflation (Retail Prices Index)*||1.20%|