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Last year, my April commentary referred to TS Eliot's quote from the Wasteland, "April is the cruellest month," and while a repeat this year might appear rather lazy if not hackneyed, nevertheless that allusion may be gaining traction as far as stock market performance is concerned.
Before we look at the detail, here's a reminder of why diversification is a wise long-term strategy that requires patience. The measure of how many years of profits (or interest payments in the case of a bond) it will take to recoup the price I paid for the share or bond is known as 'duration'. The longer an investment's duration, the more likely it is that present assumptions will turn out to be wrong, and the security's price will correct dramatically according to new information. In other words, the longer an investment's duration, the riskier it is.
For more than a decade, investors have been closely focused on buying 'growth stocks'; businesses whose current share prices represent the value of many years of anticipated earnings growth as if it were being paid in advance, and where it is hoped accelerating future profits will catch up. Thus they are 'long-duration' investments and their prices have reflected an economic environment featuring fast money growth as central banks pumped money into economies, low to non-existent inflation and associated ultra-low interest rates. These conditions were never going to be eternal; when that fiscal largesse is removed weaker stock market performance is the result, especially when valuations are at historic highs. The US market valuation is 50% over its long-term median and forecasts are being cut. The recent collapse in Netflix's share price - now down over 70% in 5 months - is indicative of how sensitive long-duration investments are to changes in assumptions about future interest and inflation rates, but more especially consumers' habits and thus earnings expectations.
In the US, last month marked the worst April performance for almost 80 years, and it's pretty clear that among the culprits for market pullbacks is the notion that the pandemic (at least in terms of its effects on the stock market) is over. Our spending habits seem to be returning to the pre-COVID normal, and the centre-stage beneficiaries of our stay-at-home behaviours over the last two years are returning to rear-of-house: Zoom Video Communications is down over 80% from its October 2020 high, indeed back to where it was when the pandemic began. Other companies like Meta (formerly Facebook) are similarly back where they started, and even Amazon has given up the excess returns it has made compared to the market during COVID, falling by over 14% on the last trading day of the month. The US S&P 500 is down over 13% this year and the technology-heavy Nasdaq over 20% lower, although sterling investors will have gained some relief via a 7% stronger dollar.
If you were only paying attention to the UK equity market, you might wonder what all the fuss is about. The index of our largest 100 companies was up a little in April and has gained 3.6% so far in 2022. The UK market is dominated by profitable, cash generative 'old-world' companies, still valued at almost a 40% discount to global equities. However, the FTSE 100 doesn't tell the full story; our next biggest 250 companies and smaller companies in the UK have fallen by 11% and 15% respectively. Most of the rest of the world have suffered worse. Meanwhile, the normal 'safe haven' in times of geo-political tension is bonds, but due to rising inflation and consequent interest rate fears, they too have suffered so far in 2022, falling by up to 12%.
A broad consensus now agrees the world will experience significantly slower economic growth than was forecast only three months ago. This is driven by central banks' ending 13 years of pumping money into their respective economies in order to combat systemic inflation (ie no longer seen as a transitory COVID-related experience). The World Bank has trimmed its forecast for global growth from its 4.1% estimate in January, to 3.2% due to "exceptional uncertainty". In April, the International Monetary Fund (IMF) downgraded 86% of the world's nations' growth estimates, with the UK and Europe seeing the deepest downward revisions. Year-on-year inflation is now at 7% and 7.9% in the UK and USA respectively while IMF forecasts inflation to average 5.7% in developed economies, and 8.7% in emerging and developing markets.
Are these conditions temporary, or presaging a new economic paradigm? Whatever the answer, the next few months will be a significant test for many multi-asset managers, particularly teams with less than 20 years' experience who will not have practiced their trade through higher inflation, lower growth scenarios and where asset allocation decisions will be paramount. I'm old enough to have worked in 1970s markets, and yet the Avellemy team is the most capable I've worked with; we all realise patience really will be a virtue in these markets, sticking to our knitting and not being tempted to "bet the farm" on one view or another. It's your money not ours, and that remains our prime directive.
Until next time...
Graham BentleyChief Investment Officer
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