Sven Balzer, Coutts Head of Investment Strategy, looks at the investment outlook for the coming months.

 

With vaccinations progressing throughout the world, the COVID crisis appears to be abating. Infection counts and hospitalisations are falling in the UK and US. While this is not the case yet in continental Europe, it is surely a matter of ‘when’ rather than ‘if’ we’ll see the same pattern there.

Governments have shown continued willingness to provide fiscal support, and central banks have re-iterated their intention to kept interest rates low. When combined with the progress on the virus, it’s not surprising that record economic growth is widely expected in developed markets in 2021.

 

US$30 trillion

Estimated total global fiscal stimulus since the start of the COVID crisis (Source: Bank of America)

 

US$1.9 trillion

Stimulus announced by the US government in March, on top of the US$2.2 trillion announced in 2020

 

£60 billion

Additional fiscal stimulus announced in the 2021 budget, on top of around £190 billion spent in 2020 (source: Institute for Government)

 

The biggest rise since World War 2?

One of the first places we’re likely to see evidence of the post-COVID boom will be in consumer spending.

Consumers have saved billions during lockdown. As restrictions on travel and hospitality loosen, we should see a substantial proportion of these accumulated savings spent on much needed holidays and festivities. Simultaneously, a labour market recovery will also generate a rise in employment and real incomes.

 

US$1.6 trillion  | £100 billion | €470 billion

Excess savings in the US, the UK and the eurozone over lockdown (sources: Oxford Economics, Bank of England, HSBC)

 

This should boost corporate earnings and new business investments. Accordingly, we’re anticipating that early Q2 will remain relatively positive as the bullish sentiment of recent months is supported by continued government stimulus and the prospects of a spring reopening. The strength and timing of this spending spree could be an important indicator of market performance in the coming months.

 

After the celebration, watch out for the hangover

One potential source of volatility is that markets have been anticipating all this for months. As the year progresses, investors will start to re-assess how much of the good news is already priced-in to equity markets.

As the crisis gradually recedes, non-COVID related news will slowly start to move to the foreground. The more traditional factors that move markets – inflation, valuations, business activity outlook – will come back into play and sentiment could begin to shift.

This is entirely in line with what we should expect as the economy moves out of recession and into a new expansionary phase. After an initial surge, the stock market tends to consolidate as interest rates rise and high valuations are questioned. We’ve already seen this happening to some extent since the start of the year, as equity markets have occasionally struggled.

With all the good news noted above, bonds have been out of favour in Q1 leading to a rise in bond yields as prices fall. This has put pressure on valuations, especially for the most expensive or speculative stocks, because bond income now looks relatively more attractive. Cyclical stocks – which are generally cheaper and more closely entwined with the rebound – are holding up better.

We think these sector differences open up opportunities for our active fund managers to outperform basic headline indices.

 

Credit where it’s due

Not surprisingly, the improving economic outlook is reflected in corporate debt asset prices.

Investment grade credit spreads have tightened dramatically relative to government bonds in the last 12 months as the outlook for corporate borrowers improved. This reflects the large amounts governments have spent to support companies through lockdown and the potential for higher earnings thanks to economic expansion.

In this environment, we don’t see a big potential for gains. We’ve therefore scaled back to a more neutral view on corporate credit in our portfolios compared to last year.

 

Hold on through market ups and downs

While there are likely to be market ups and downs as the global economy shakes off the effects of coronavirus, 2021 still looks positive. There are some circumstances that could cause disruption – as yet unknown mutations in the virus, for example, or diplomatic disturbances between the US and China.

As ever, the best defence against the unpredictable is a diversified approach that balances seizing opportunities with keeping one’s powder dry. Most important is to make decisions based on a long-term view and in-depth data and analysis, rather than be swayed by overriding investor sentiment.

 

Past performance should not be taken as a guide to future returns. The value of your investments, and the income you get from them, can go down as well as up and you may not get back the amount you first invested.