09 March 2021
On Friday, US stocks took a turn for the better following an erratic week where tech shares dropped once again. For the third week in a row, the tech-heavy Nasdaq index was down, while the S&P 500 index of large US companies was up for the week.
Markets are weighing up what the global economy will look like once the dangers of the pandemic have subsided, and so the performance of many technology shares has been below par the past few weeks. The general feeling seems to be that economies will quickly recover – the knock-on effect being that of potentially higher inflation. This theory was further supported last week following the news that the US economy exceeded job creation expectations in February.
The promise of strong economic growth on the horizon has meant that so-called ‘value’ stocks are more desirable compared to their fast-growing equivalents. Some investors believe that ‘value’ investments are about to have their moment, after many years where the likes of Tesla and other high-growth companies have hogged all the attention.
Market movements in particular are linked to how inflation expectations have pushed up the yield of US Treasury bonds recently. Treasury bonds (US government debt) have a ripple effect on the prices of several kinds of financial assets. As Treasury yields increase, so does the interest that investors earn for owning them – this subsequently puts pressure on the prices of other investment types, such as equities.
In contrast with their age-old standards, yields are still very low – this week’s headlines focused on an increase to over 1.5% on the 10-year Treasury note, whereas two years ago it was at 2.6%, and around 5% 20 years ago. Yet the rate of increase appears to have thrown some investors this year.
Despite the recent pullback in certain parts of the market, major US stocks remain near the all-time highs that they achieved earlier in the year. However, investors seemed to be waiting for a signal from the Federal Reserve that it will continue to support asset prices.
Keeping interest rates low and buying bonds are just two of the ways that the central bank has done this over the past 12 months. Fed chair Jerome Powell said it would continue to support markets in his speech on Thursday, but investors appear to have been expecting a firmer commitment, because Treasury yields continued to rise after Powell finished his speech.
Since the coronavirus unleashed itself in 2020, bond yields and interest rates have been lying low, whereas other parts of the market, such as technology shares, have seen valuations shoot up. Mark Dowding of BlueBay Asset Management, Co-manager of the St. James’s Place Strategic Income fund, believes that the recent changes could be part of a self-corrective pattern.
“It makes sense for markets to be held in some suspended animation after a period where we have witnessed some pretty substantial moves. However, this won’t last forever and, ultimately, underlying fundamentals will come to the fore,” Dowding added.
In the UK, meanwhile, the financial highlight of the week was the Budget announcement (see Wealth Check, below). Chancellor Rishi Sunak declared a ‘spend now, tax later’ set of proposals, in which he presented how the UK will embark on its journey to build up its public finances once the worst effects of the pandemic have bid a hasty retreat.
According to Nick Purves from RWC, which manages funds for St. James’s Place, the ’tax later’ part of these proposals means that the UK market will have a period of recovery, with anticipated benefits for stocks that are most sensitive to the health of the economy.
“As far as the UK market goes, this will continue to support the reflationary narrative which began in November and has seen the share prices of cyclical stocks such as energy, materials and financials rise significantly more than defensive sectors such as consumer staples and technology,” he added.
Azad Zangana, Senior European Economist & Strategist at Schroders, a fund manager for St. James’s Place, suggests that the news is potentially somewhat negative for the prospect of UK equities; however, this should be seen in the context of how undervalued they are currently.
“Purely on the back of the tax increases, the Budget would lead to a bit of a downgrade to the outlook for UK equities. But UK equities are relatively cheap now, relative to their own history and to the other markets. Looking at standard measurements of value, the UK market is still looking quite attractive,” he added.
Rory Bateman, Head of Equities at Schroders, concurred that the way forward is optimistic for UK companies following a tricky period.
“We should recognise that British companies have faced unprecedented difficulties over the last year, and we continue to see excellent opportunities for investment. Increased activity in the IPO market and companies coming to market for equity capital is a sign of confidence about the future growth prospects ahead.”