World Markets Summary:
Equities and bonds went their separate ways in February as the former produced strong returns with only a few exceptions. Bond yields outside of China backed up (and therefore prices fell) as the US Consumer Price Index (CPI) number was above expectations and there were signs of economic optimism emerging in the UK and Europe. Such improvements in optimism are generally better for shares than bonds. Indeed, investors are now pushing back the timing of interest rate cuts and also the magnitude.
While Nvidia made the headlines with stellar revenue and profit growth, US Nasdaq performance was matched or bettered by several Asian markets, including China and Japan. This was the first month in over a year in which emerging market equities outperformed developed markets. An acceleration of measures to support the Chinese consumer and stock market were the main catalysts.
Within markets, small caps have continued to underperform. This is true of the US, Japan and the UK.
The oil price drifted higher, whilst both gold and copper posted modest declines.
A notable development in the month was the uptick in bid activity targeted at UK companies. DS Smith, Tritax Big Box, Curry’s and Direct Line were all approached. Furthermore, business services and software company, Marlowe, sold a business which contributed approximately 40% of its profit for over 100% of its prevailing market capitalisation. In the power generation space, The Renewables Infrastructure Group sold some US assets at a 30% premium to the Net Asset Value. All of this activity implies that if institutional investors don’t recognise the value on offer among UK shares then other companies and/or private equity will take steps to unlock the value.
Investors are very crowded into US Artificial Intelligence (AI) names as well as Japanese large caps. In the very short-term momentum means this is unlikely to change, however after Q2 most market participants are expecting a withdrawal of liquidity which could cause some volatility. We would consider this a normal correction and remain optimistic about prospects for our portfolios between now and year-end.
Our in-depth views on:
Our weightings are based on sterling as a base currency.
United Kingdom (UK)
It was a frustrating month for UK equities as they once again lagged behind global peers. The FTSE 100 posted a meagre gain while the mid cap FTSE 250 actually fell modestly. This was despite tangible signs that the outlook for the UK economy is improving and ongoing takeover activity at prices meaningfully above pre-bid levels. Like Japan, the UK entered a shallow technical recession in the second half of 2023, but other, more timely data releases, were generally constructive. UK services Purchasing Managers’ Index (PMI), construction PMI (builders most upbeat about prospects since January 2022), retail sales, Confederation of British Industry industrial trends survey, industrial production and inflation all showed improvement on the month.
Amidst the flurry of takeover activity, a new twist is that both electrical retailer Curry’s and insurer Direct Line rejected bids despite the big premiums to pre-bid prices. Both boards think the bid levels leave the companies significantly undervalued. We think these developments are indicative of the inherent undervaluation of UK companies.
With ongoing bid activity likely, consumer real incomes set to rise and interest rates set to fall, better times are a real possibility for the UK over 2024.
United States (US)
In what is starting to feel like Groundhog Day, US equity markets continued their relentless moves higher with each of the major indices registering new all-time highs in February. The Nasdaq surged a further 5.41%, the S&P 500 rose 5.34% and the Dow, while a little more subdued, increased a respectable 2.5%. Of the 90% of S&P 500 companies who had reported by the end of February, encouragingly 75% had beaten earnings forecasts.
The theme of AI continued to capture the imagination with the Nvidia CEO claiming accelerated computing and generative AI were at a ‘tipping point’ with demand surging worldwide across companies, industries and nations. Nvidia’s above expectation results saw their market cap grow by $273 billion in one day, a new record. With Meta and Amazon also delivering blowout figures, appetite for technology stocks continue to power markets higher.
Inflation data was again mixed through the month with the annual CPI falling less than expected at 3.1% vs the 2.9% expectation with core inflation remaining stuck at 3.9%. Markets eased back following these releases in mid-February and treasury yields moved higher over fears that the Fed’s first rate cut may not come as soon as expected. However, towards the end of February, the Fed’s preferred gauge of inflation, the core Personal Consumption Expenditures (PCE) index, met expectation rising 2.8% on an annual basis. Markets breathed a sigh of relief, stocks surged and yields dipped back as a result.
Economic data remained resilient continuing optimism that the ‘soft landing’ scenario remains the base case. Unemployment stood steady at 3.7% and employers added 353,000 jobs in January. Job openings are above anything seen prior to the pandemic. The US composite PMI remained in expansion, albeit a little softer than January, with manufacturing expanding at its fastest pace since September 2022.
Europe
European equity markets performed well in February with the both the German DAX and French CAC hitting new record highs. Indeed, of the major stock indices, only Italy was down in the month. Despite the strong stock market performance, we again saw outflows as money continues to flow into the US and Japanese markets. So far in 2024 we have seen net fund outflows, continuing 2023’s trend.
Similarly to other major regions, small caps so far this year have lagged large caps in market performance. Small caps are now trading one standard deviation cheaper than large caps.
Strong markets do not always correlate to strong economies, however we are seeing continued signs of Eurozone improvement. Inflation came in lower than expected, German industrial production had an outsized gain and the ZEW Index rose for a seventh consecutive month. We have also seen an uptick in money supply this year, although it must be noted that this is from already low levels.
Manufacturing initially came in disappointingly but was later revised upwards to the same level seen in January. We would continue to expect a recovery in manufacturing this year as we are near the end of the inventory de-stocking cycle. We are now in the fourth month of stabilisation after seeing a manufacturing recession for the 18 months prior to that.
Asia and Emerging Markets
For the first time since January 2023, emerging market equities outperformed their developed market counterparts. The main drivers of this were the latest actions by the Chinese authorities to prop up the stock market and bolster consumer confidence, which market participants have thus far viewed more likely to succeed than prior efforts. Such actions have included replacing the stock market regulator, buying of equities by government bodies and cutting the interest rate closely tied to mortgages by the most on record. The last two times the stock market regulator was replaced, the market subsequently rallied more than 50%.
Over the month, Shanghai, Hong Kong and Vietnam all rose high-single digits while Korea and Taiwan produced mid-single digit returns. India and Singapore were the two laggards in the month.
Japan is a developed market which continued its very strong run and was once again one of the top performing equity markets globally. Whilst the macroeconomic news was patchy in that a technical recession occurred over Q3 and Q4 2023 and household expenditure remained weak, investors concentrated on the fact that that corporate earnings forecasts have inflected higher and the chances of the country exiting deflation are the highest in decades. Indeed, the Nikkei 225 Index rose to levels last seen in 1989-90.
Fixed Income
US 10-year bond yields have now moved up over 30 basis points this year as the market has continued to price out interest rate cuts. At the start of the year, market participants were pricing six interest rate cuts in the futures market versus the Federal Reserve’s implied three. A higher-than-expected inflation print alongside some other robust data releases mean that the futures market has now come down and is pricing just three cuts. The forecasted timing of these cuts has also now been pushed back to the middle of the year from March previously.
We are now in the 18th consecutive month of the yield curve being inverted. The typical period is 6-24 months prior to recession ensuing and it hasn’t been wrong yet in predicting said recession. We would note that the US did enter a technical recession in 2022 and if we do see a recession from here, it is likely to be short lived.
Both investment grade and high yield credit spreads have continued to tighten over the last month and these both now look expensive and not good value from here. As the US slows over the next 12 months, one would expect spreads to widen. On the contrary, although credit spreads have narrowed in the Eurozone, they started from wider levels and therefore look better value, although are still now outright cheap.
Japanese 10-year bonds yields currently sit at 0.71% and we would expect upside from here as we expect policy normalization over the course of 2024.
Alternatives
Oil continued its upward trend in February, climbing a further 2% to end the month at $82 per barrel. Despite crude oil inventories increasing for five consecutive weeks and continued concern over demand from China, tensions in the Middle East and expectations that Organisation of the Petroleum Exporting Countries (OPEC+) will extend supply cuts until Q2, more than offset the downward pressures on the oil price.
Looking ahead, the oil price will likely gain support should OPEC+ make the widely anticipated decision to extend the 2.2 million barrel per day supply cut. However, OPEC+ is unlikely to maintain this policy in the long term, as they will no doubt have one eye on the increasing proportion of oil supply that the US is currently occupying US demand for oil rose to a four-year high last year, but is expected to hold steady this year and China’s consumption is anticipated to rise just 1% in the midst of a continued economic slowdown and shift to electric vehicles. Hence, in the absence of further geopolitical escalations, the demand supply dynamics should limit major price gains this year. With Trump expected to return to presidency in November, if the polls are to be believed, it is also worth noting that the oil price averaged $58 in his first three years at the helm, whilst it averaged $80 during Biden’s first three years.
Gold came close to dropping below $2,000/oz in the second week of February, but US inflation falling in line with expectations reinforced the expectation of Fed cuts. The dollar fell on the news, which further supported gold by making it more affordable for international investors. Consequently, gold surged towards the end of February to end the month roughly flat.
Property
UK house prices rose on a yearly basis for the first time in over a year, with a 1.2% increase in February contrasting with a 0.2% decline in the previous month. This was largely attributed to UK mortgage approvals surging to the highest level since October 2022 on the back of average mortgage rates falling for the second consecutive month to 5.19%, which is the lowest rate since October 2023. The picture was not so rosy for UK REIT’s (Real Estate Investment Trust’s), which fell a further 5% in February, bringing returns for the year to -8%. REIT’s are listed on the stock market, which is forward-looking by nature. As a result of heightened fears that the Bank of England may not cut interest rates as quickly as previously expected, investors have been selling REIT’s. The sector-wide discount to Net Tangible Assets now sits at 18%. These attractive valuations unsurprisingly resulted in further corporate activity this month and this trend should be supportive for sector performance going forward.
In the US, mortgage rates have risen for four straight weeks and the 30-year rate is now flirting with 7%. This pick up in mortgage rates has reduced housing demand, which was reflected in pending home sales receding 4.9%.
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Important Information
All Index data figures are sourced by Morningstar and correct as at 29 February 2024, unless otherwise stated.
The value of investments or any income arising from them may fluctuate and are not guaranteed. Past performance is not necessarily a guide to future performance.