28th February 2017

Rathbones weekly review: Take a breath

Say what you want about overpriced bonds, for investors there is no comfort blanket quite like them.

Japanese government bond yields are so low they look like rounding errors, yet when investors get worried, they get even lower. The same goes for US treasuries and gilts. The 10-year yield for all three sank last week in the face of a polarised French presidential race, a lack of conviction for a US interest rate increase in March, and a dip in some US economic data.

While the Federal Reserve minutes released last week showed the committee plans a more aggressive rate hike path “fairly soon” – possibly even next month – the market continues to imply that the next move will come in June.

 Added to that, the likelihood of swift tax reform or stimulus spending by the Trump administration has faded somewhat. The new President’s promise to inject $1tn into ports, airports, railways and bridges has had little air time lately. Instead, the priority is finding a replacement for the Affordable Care Act so Obamacare can be repealed without throwing his poorer voters to the wolves. Meanwhile, the tax reform bubbling away in the background is unlikely to get through Congress this year, given its complexity even before ripping up the status quo and starting again. Also, it is worrisome that Donald Trump, members of his Cabinet and congressional Republican leaders all appear to have different ideas of what this tax plan will look like. Mr Trump speaks to Congress this week, so investors will be listening carefully to determine just what the game plan is for these crucial issues.

Last week, companies that benefit from a booming economy – such as miners and banks – dropped noticeably. Meanwhile, businesses with more reliable earnings, like consumer goods and utilities, rose. Falling bond yields no doubt helped: when risk-free returns fall, the consistent cash flows offered by these businesses become more valuable. Kraft-Heinz’s (since-aborted) bid for Unilever also boosted the performance of the consumer goods sector.

Equity markets have come a long way. The S&P 500 and FTSE All-Share are now, respectively, 10.7% and 6.1% higher than the day of the US election. Whether disappointment sends them lower or a breakthrough on tax or economic growth sends them higher is unclear. But they are unlikely to tread water for long.

Source: FE Analytics, data sterling total return to 27 February 

Consumption on borrowed time?

Despite the 24-hour live feed of alleged turmoil in the White House, US companies posted strong numbers for the latest earnings season. 

As of Friday, 92% of the S&P 500 had reported fourth quarter results, with index-level annual earnings growth estimated to be 4.9%. That would be the first time in two years that the blue chip US index has posted two consecutive quarters with higher growth than the previous year. Utilities posted the best earnings growth over the quarter, up almost 20% on the same time in 2015. They were followed by real estate, financials and IT. Telcos and industrials were the only sectors to see earnings contract.

Unfortunately, earnings season isn’t going so great in the UK. The FTSE All-Share was pulled down by poor results from RBS, Standard Chartered and HSBC. It was not a completely miserable week for UK banks though, with Barclays trebling its profit by reducing provisions for previous misdeeds. Miners weighed even further on the index due to profit-taking after a bumper year.

As is the custom, UK growth is being driven by the consumer. Since Brexit, greater household spending has bolstered UK GDP. However, this spending has easily outpaced wage growth. The increased spending is being paid for by hefty rises in consumer credit. Annual growth almost reached 11% in November and December. Since then, the British Bankers’ Association has reported continued growth in credit card debts racked up with major lenders and mortgage approvals hit a 12-month high in January. The Bank of England releases January’s consumer credit data on Wednesday.

The next pulse check for the UK economy will be when the PMIs are released this week. The business surveys have been very strong since the Brexit vote, albeit the all-important services PMI fell back in January. Economists expect services to report another fall in February, although this one slight.

Bonds

UK 10-Year yield @ 1.08%
US 10-Year yield @ 2.32%
Germany 10-Year yield @ 0.18%
Italy 10-Year yield @ 2.20%

Spain 10-Year yield @ 1.70%

Julian Chillingworth
Chief Investment Officer

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Investments, Investment Commentary