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Brian Tora: Economic improvement likely to fuel volatility

The latest economic data from Europe and the US means central banks are more likely to begin to unwind QE programmes.

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My slightly upbeat comments on how Europe is faring appeared to be well timed. A couple of weeks ago I referred to some straws in the wind that might indicate an improved situation over in the single currency zone. Last week we had economic growth numbers for this embattled club and, sure enough, things are getting better. But not for everyone, it has to be said.

Greece continues to shrink. With a further contraction of over 4 per cent, it makes you wonder if the economy isn’t in danger of disappearing altogether. Portugal, on the other hand, posted a surprising 1.1 per cent growth in GDP, the best in all the eurozone. Mind you, it is hard to spot the signs of new sprouting economic shoots if you travel around this delightful, but hard pressed, country – as I do regularly.

The 17 countries that use the Euro as their currency posted an overall 0.3 per cent rise in GDP for the second quarter of 2013. Germany exceeded expectations, with a rise of 0.7 per cent, closely followed by a better than forecast France, up 0.5 per cent. These rises concealed contractions in Spain, Italy and the Netherlands but were generally received well initially, not that we can rely on these figures being the end of the story.

Nor did the euphoria last too long. The day after the numbers were released was a holiday in several European countries but those that were open for business saw investors take fright as concerns over the Fed withdrawing its bond buying programme grew.

Nobody can be certain as to the extent that the better tone to markets has been fuelled by cheap money provided by governments, but traders were squaring positions to be on the safe side.

The fact is, though, that we do appear to have arrested the economic slide, even if the debt mountain continues to defy attempts to bring it down meaningfully in size.

Interestingly, sterling rose against the Euro immediately after the economic stats were released, though that probably had more to do with better than expected retail sales figures. And our own benchmark indices suffered more than European bourses in the nervous conditions that built towards the end of last week, with the mid cap 250 Index particularly badly hit.

So we find ourselves with growing evidence of a broadly improving economic picture but with shares giving up some of the gains made earlier in the year. Moreover, the picture is even more mixed than usual as the variation in performance between countries’ stock exchanges has been wide indeed.

This all makes asset allocation particularly tricky between equity markets, even though they appear on the face of it to be a better bet than bonds.

Part of the uncertainty at present stems from recent labour figures released in the US. Unemployment is increasingly being adopted as a trigger for change in monetary policy and we are seeing an improving outlook in America. It is not, though, taking the form that many expected. Demographic changes and advancing technology means that this cycle might look quite different to those we have experienced before.

How the Fed will react to the numbers coming out is unclear but the improving energy situation in the US and the return of manufacturing jobs into the country suggests the outlook there is rather more encouraging than that on this side of the Atlantic.

So monetary easing could indeed end sooner than we all expected, with a rise in interest rates a consequence. Already 10 year US government bonds are yielding more than their UK equivalent – and yields here have been rising too.

Preparing for a shift in the macro picture should now be exercising the minds of investment managers everywhere. It may prove a bumpy ride but opportunities will be thrown out as markets prove to behave in a less than efficient manner. Expect a turbulent autumn but treat it more as an opportunity than a threat.

Brian Tora is an associate with investment managers JM Finn & Co

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