The market is wrong – according to experts
So 2016 was a disastrous year.
Well, we’ve been hearing that a lot, whether it’s the newspaper columnists ranting by the inch, actors whinging at the Golden Globes or economists and strategists griping about politics interfering with textbook theories.
It is not this blog’s job to be partisan on politics, so I will steer clear of commenting on social issues, but from an investment perspective 2016 was not bad at all. In local currency terms, the FTSE 100 rose nearly 20% in 2016 and the S&P 500 was up 11.2%. Both have hit new all-time highs since, despite dire warnings of the outcomes of Brexit and the election of Donald Trump.
Remember both of these events were counter to mainstream opinion on what is “good for markets”, i.e. leaving a trading bloc (although this was not the principal Brexit aim) and adopting protectionist policies are very bad.
Of course in the long term they are. We know protectionism eventually results in less competitiveness, productivity and innovation. The result: lower profits. However, as always, many commentators initially focus only on the headlines rather than the detail.
Protectionism comes in many ways – it is not just about raising tariffs on products and services at the border. Brexit could end in a variety of different outcomes as well. With regard to President-elect Trump and Brexit, we simply do not know what the outcomes are actually going to be.
In my opinion – and as I’ve said several times before (see previous blog post) – commentators were far too quick to focus on the negative in the immediate aftermath of both votes. What worries me now is that markets have begun to underestimate the risks of each and become complacent.
This is all incredibly ironic. The markets, in my opinion, have reacted logically to the limited facts so far. Brexit may mean the UK remains in the trading bloc. If so, there will be a cost, but it seems like one the markets are willing to pay… unlike many who voted for it! Trump was seen as pro-business and supportive of keeping jobs in the US, which could push up consumer spending and domestic company profits in the short term. The announcements by Ford and Fiat Chrysler seem to bear this out.
You could argue these carmakers’ decisions will be detrimental to margins in the long term, but it may have a short-term positive impact on the US economy first. The markets tend to focus on the short term and economists the long term. Is this the reason why the two are poles apart?
With this in mind, strategists’ rush to advise investors to underweight US assets ahead of Mr Trump’s inauguration seems too simplistic. Mr Trump’s policies will have global impacts and could affect companies and economies in Europe and Asia even more than those in the US. We have to review every investment we hold and try to understand vulnerabilities – and opportunities – stemming from potential US foreign and economic policies. The key point being when they are implemented not just announced. Mr Trump likes to make his points hit home with whopping hyperbole, but his follow-through policies may be much more moderate.
I believe the lack of historical precedents for Trump or Brexit (or indeed the rise and fall of global quantitative easing) means it is very hard for economists or strategists to model potential outcomes. There is simply insufficient data, so there’s always a risk of “garbage in, garbage out”.
Economists dislike uncertainty – it tends to play havoc with their models. Most of the time, less surety leads to gloomier forecasts and the expectation of lower asset prices. But not all uncertain outcomes are bad. Sometimes they produce positive surprises.