Thanksgiving Smorgasbord!
Author: Tom McGrath CIO, 8AM Global
Market Review
The cease-fire between Israel and Hamas gave us good news and a chance for Americans to express that at their annual Thanksgiving dinners last week. Investors were also served a full banquet of US macro-economic dishes last week. GDP, jobs, income, and spending data slid down nicely for equity investors, but inflation caused indigestion, particularly for tech investors. In unusual contrast, bond holders seemed more content with the offerings, and the ten-year yield fell back to 4.18% after testing the 4.5% level again. We did get further global economic releases, but it really is all about the US at the moment, as the European markets danced around, taking their cues from Wall Street. The question of tariffs continues to dominate market conjecture, with almost an equal balance between folks worried about the Trump salvos and those relaxed that the result will be diluted once the posturing from the ‘Art of The Deal’ maestro is finalised. We shall see, but early suggestions are that, from Berlin to Beijing, they are warming up to dance to the tune of the new President.
US Economic Download
Last week, nothing in the Smorgasbord of US economic data raised any red flags for me. Sure, inflation was a little higher than many hoped for, but that has been our base case for a while now – stickier inflation but stronger growth – and for the most part, that was what we got in the latest batch of data releases. The good news was that the US economy continued to show steady momentum. Real GDP for Q3 held firm and was revised upwards to an annualised growth rate of 2.8%, while Q4 is on track to hit a similar pace at 2.7%, according to the Atlanta ‘GDPNow’ forecast. Real incomes are climbing to all-time highs, business investment never stronger and the labour market remains strong.
Consumer Strength; Corporates; Labour Market
Consumers continue to drive economic growth, with real disposable income rising 0.4% in October. Spending also increased, though modestly, up 0.1% overall. Goods spending was essentially flat, while services spending rose 0.2%, led by healthcare, dining, and travel. Retired Baby Boomers, who we have long thought are a big reason economist continuously underestimate growth, are playing a pivotal role here, directing more of their dollars toward restaurants, vacations, and health care services. They probably have about $80 trillion of net wealth now, which is also continuously trickling down to millennials, whose spending propensity is far greater than that of their ageing parents.
Corporate America is thriving. Profits in Q3 remained near record levels, and corporate cash flow reached an all-time high of $3.8 trillion. With such strong liquidity, companies are well-positioned to ramp up capital investments, particularly in technology, fuelling what we think could be a virtuous long-term productivity and growth cycle. The labour market looks solid at the moment. Initial jobless claims stayed flat at a low of 213,000 for the week ending November 23rd, while continuing claims dipped slightly. Layoffs remain scarce, highlighting the job market’s enduring strength, which continues to support household income.
One thing we do know about the American people that are culturally different from Europeans, is that if they have a secure and rising income, they will spend and be unafraid of increasing their debt burden, which is probably not too dissimilar to the US government!
Inflation
Now, from the point of indigestion, this remains the primary headache for dual-mandated policymakers. The Fed’s preferred measure, core PCED inflation, increased by 0.3% in October and now stands at 2.8% year-over-year, edging up slightly from September’s 2.7%.
Supercore inflation is causing the migraine. This measure, which excludes housing and focuses on services, actually rose to 3.5% year-over-year, and in case you need a reminder, this is well above the Fed’s 2% target. Fed Chair Jerome Powell used to trot out this measure as the most important (although less so now, it’s not looking that good!) indicator, suggesting that the central bank should hold off on rate cuts for now.
But the Fed probably won’t abstain, as having communicated that cuts are still likely, it is too early to move back to a ‘hold stance’, and I think the odds are still good that we will get that December cut. I suspect and hope that at the next briefing (Dec 17-18th), we will start to hear the Fed walking back on further rate cut promises until data confirms that inflation is back on a downward trend. A foolhardy continuation of rate cuts could risk overheating the economy and cause a proper stock market melt-up, and whilst it might have a short-term feelgood effect (possibly what Trump would like), it could create real headaches further down the road. Rate cuts might cause a spike in yields at the long end of the bond market as the bond vigilantes get worried about latent inflation, making the growing deficit look even more worrisome. Anyway, that’s likely to be next year’s concern, and until then, I wouldn’t be fighting the momentum in the equity markets as we run up to year-end.
Asia & Emerging Markets under Trump
Over the weekend, Trump was at it again; this time, he warned BRICS nations against creating a new currency to rival the US dollar, threatening 100% tariffs on countries pursuing de-dollarisation. Trump emphasised that the US dollar must remain the global reserve currency and vowed to penalise any nation moving away from it. In truth, the infrastructure that backs the dollar, such as the cross-border payment system, will likely give the US currency a decisive edge for decades. It was more of a move to remind the BRICS who the boss is!
The threats will pass without comment back, but it shows complete ineptitude from the President in waiting, as the US cannot reduce its trade deficit and increase the global dominance of USD because these impose diametrically opposed conditions. It does, however, underpin a confrontational strategy, and global investors are still scratching their heads to work out if this is going to mean crippling tariffs across the board or just high-stakes poker that threatens world trade.
So far, initial reactions to Trump’s election victory have been good for US stocks, particularly those with a domestic bias. Still, it has taken a toll on the Asian and Emerging markets for the obvious reason that their exporters will get walloped. The bully tactics might make his MAGA supporters happy right now. Still, the law of unintended consequences could kick in long term, as this might be the catalyst for these nations to wean themselves off their dependence on American consumption and to redouble their efforts to stimulate their economies. Many, led by China, have already begun to diversify their trade partnerships and refocus on domestic consumption, and expect an almighty fiscal stimulus program from Beijing if Trump does impose excessive tariffs. Other big emerging markets, such as India and Vietnam, are increasingly relying on domestic growth drivers like infrastructure investment and consumption. The likes of Taiwan and South Korea, who hold the trump card in chip manufacturing, stand to benefit from continued US investment in technology. Looking at the GDP tables, Southeast Asia remains a growth hotspot with enviable demographics, and the long-term argument for cheaper wages is still in place.
It would be reasonable to expect that the Asian and Emerging Markets are unlikely to offer much upside until we find out what Trump’s plans are. Still, it would be unwise for global investors to ignore these regions. Part of my argument for sticking with an allocation to the regions is the valuation differential. The chart made by JP Morgan is for the end of September, and since then, the US has become more expensive and EM cheaper.
One factor at play that gives me reason for optimism is the ‘Japan Effect’—for want of a better name. This push for stronger shareholder returns, improved corporate governance, and higher market valuations—modelled after Japan’s decade-long reforms—is gaining momentum across Asia. From Seoul to New Delhi, governments are rolling out initiatives under the “Value Up” banner, aiming to mirror Japan’s success in revitalizing its stock market.
Undoubtedly, Trump’s recent election win and his protectionist trade policies have accelerated the willingness of Asian companies to boost corporate efficiency as Japan’s transformation offers a clear blueprint. Companies are more focused on increasing shareholder returns and have diversified boardrooms, embraced activist investors, and scaled back cross-shareholdings.
South Korea has launched its ‘Corporate Value Up Program’, while China, India, Singapore, Malaysia, and Thailand are initiating similar measures. Indian Prime Minister Narendra Modi’s reforms of state-owned enterprises have already shown tangible results, with higher dividend payouts and increased market capitalization. Perhaps another unintended consequence of Trump being in power could be a wave of reforms that finally unlocks the hidden value in Asian markets.
UK – No Change
The UK stock market seems to have returned to its usual rhythm; think Terry Jack’s ‘Seasons in the Sun’ for those old enough to remember that or for those too young, suffice it to say that it is not a triumphant tune. Expectations that the Labour government might emulate a City-friendly New Labour 2.0 have faded, leaving a sense of deflation in capital markets. While some optimists still hope for transformative reforms, this feels more like a refusal to admit the cavalry isn’t coming anytime soon than a belief grounded in any substance.
What remains is a market filled with undervalued UK stocks that are waiting, perhaps too patiently, for someone to see their worth. Loungers, the AIM-listed pubs and restaurants chain, is the latest to be snapped up, with Fortress Investment Group paying a 30% premium for its shares. The company acknowledged that its growth wasn’t reflected in its stock price—an increasingly common lament.
It’s not an isolated case. Direct Line surged in value after rejecting a bid from Aviva, the second suitor it has turned down this year. Meanwhile, Renewi, the FTSE 250 waste management firm, saw its shares soar by 40% following a renewed bid from Macquarie Asset Management, revisiting an unsuccessful offer.
Whilst some fund managers are at least enjoying short-term wins, as stocks in their portfolio get taken out higher (the premium on takeovers is now around 40%, which is as high as I can remember), it probably isn’t good news that promising companies are taken private before they can deliver the long-term value anticipated. It’s also a troubling reflection on market inefficiencies, with so many undervalued firms languishing until a suitor arrives to capitalise on the disconnect.
The reasons for this state of affairs are familiar. Brexit seems to have cast a long shadow over the UK market, and Labour’s hike in employer National Insurance contributions has done little to bolster confidence. Regulatory unpredictability is another issue; international investors, particularly in the US, remain wary of Britain’s investment climate, even citing niche scandals as concerns.
There is obviously value to be found in UK companies. If the wave of M&A and takeovers continues, then it might dawn on global investors that they should probably just buy the market as a whole and wait for the periodic spike higher as ripe companies are acquired. Think of the FTSE AllShare as a closed-ended fund trading at a discount to its net asset value and patiently waiting for that discount to close.
Finally, remembering that the FTSE 100 is still the best market for dividends is worth remembering. There is at least one natural buyer in the market – the companies themselves – with corporate buybacks accelerating, with estimates that this could approach the £100bn mark next year. Incidentally, this is about how much UK pension funds hold, with less than 4% of their allocation in UK equities. And if you want something to get properly annoyed about, as my colleague Roland Kitson regularly brings up:
‘The Parliamentary Contributory Pension Fund (PCPF), which manages pensions for UK Members of Parliament, has significantly reduced its investment in UK equities. As of March 31, 2023, the fund held approximately £10 million in UK equities, representing just 1.3% of its total assets of £782 million’…
So, despite all of these headwinds, it might surprise you to learn that on a total return basis, the FTSE 100 is sitting close to an all-time high and that over the last twenty years of wars, banking collapses, taper tantrums, and pandemics, it has delivered growth in excess of 250%. So don’t write off the UK market completely. It may yet surprise, and until then, it is reasonably underpinned by a cheap valuation and an attractive dividend stream.
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