Jonathan Marriott, Chief Investment Officer
In the first quarter of this year, markets adjusted to the prospect of the vaccination programme getting us back to normal. The concern was that the vast array of stimulus plans would lead to high inflation and expectations grew that central banks would raise interest rates sooner rather than later. In the second quarter, we have seen these views moderate and bonds recovered some of the losses of the first quarter, with equity markets in many parts of the world making fresh highs. The rotation out of technology and growth stocks into pandemic recovery plays and value stocks also partially reversed with the bond market move. With both bonds and equities moving up, it was generally a good quarter for investors.
Following the enormous fiscal and monetary stimulus to counter the pandemic’s economic impact, inflation fears have dominated much of the discussion around the outlook for investors. The US Consumer Price Inflation (CPI) rose to 5% year on year, somewhat higher than economists had predicted. However, many of the factors that drove this figure higher may be seen as transitory. Supply shortages (due to cuts in production) combined with strong demand as restrictions ease have created a significant supply and demand mismatch, which may correct over time. Year on year comparisons on all economic data should be taken with a pinch of salt. During the second quarter of last year, the economy was in maximum shutdown, depressing prices. We should not forget that excess supply and zero demand took some oil futures prices briefly negative last year. UK inflation also rose, but is less sensitive to the oil price due to high taxes on refined products and the pound’s strength against the dollar. Central banks on both sides of the Atlantic have expressed the view that inflation is transitory and, in the second quarter, the markets seem to have dampened their fears to come more in line with this view.
Labour statistics have also been distorted during the pandemic. The furlough scheme in the UK and similar schemes elsewhere have reduced the level of unemployment in the official statistics. As the global economy reopens, there appears to be a shortage of people to fill the jobs. This may moderate as the various schemes are unwound. However, finding people with the right skills in the right places may be difficult for some months to come, which may slow the economic recovery.
Away from the pandemic, the Chinese authorities continue to flex their muscles as they crack down on opposition in Hong Kong and on some of the tech companies that have grown rapidly in the last few years. While there are signs that the population may be peaking, the Chinese economy will continue to grow and Asia as a whole should continue to lead economic growth in the years to come. However, given the political risks, positive equity returns may come with additional volatility.
The pandemic is not over and, while the UK and US have led the way with vaccinations, many countries are lagging way behind. While large parts of the global population remain unvaccinated, there is also still a high risk of new variants arising which may yet delay the recovery. President Biden’s spending plans on infrastructure and tax raises have been moderated, but will support the largest economy in the world. Despite the risks, we can look for a continued economic recovery which should be positive for equity markets.
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