June 14 2011
The global economy continues to face a number of challenges: increased unemployment in the United States; increasing evidence of a slowdown in China; rising interest rates in Asia; Europe’s seemingly endless struggles with its debt and its politicians’ blinkered refusal to accept that the euro is structurally flawed; a Japanese economy that, yet again, promised so much yet was thoroughly derailed by the earthquake.
Unsurprisingly, investors reacted badly. The MSCI World Index is down some 4.8% in the month to date which translates into trillions rather than billions of pounds. And US Treasuries, once again, were the ‘safe haven’ of choice and yields fell for the ninth week in a row – clearly ignoring the giant US budget deficit.
So where does this leave us? Well, there are three scenarios we need to consider –‘slowdown’, ‘plodding along’ and ‘growth’. Slowdown is clearly the biggest risk to equity investors, but we feel this is the least likely outcome and the scares of the US economy are overdone and that an outright recession there is very unlikely.
Plodding along and growth offer equity investors more cause for optimism. We have argued for some time that the quality companies are in good financial health, and that they should be the focus for investors. The combination of some political resolution in Europe, an economic rebound in Japan, and consistent positive data from the US would probably lead to a recovery in global equity markets, and it is this scenario that we favour.
Some words of caution. The MSCI World Index is still up more than 22.3% over the last 12 months and, in our view, equities no longer look cheap. We must watch the decisions made in China over the coming months carefully – if they get things wrong then the economy could slow more than expected which would reverberate across the globe, unsettling emerging markets and spelling trouble for commodities. And there are also signs that Europe’s powerful German engine room is starting to peak.
For now, we must remain patient and mindful of the outlook for the second half of 2012 and early 2013 before getting too carried away with the prospects for the rest of this year.
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