April CPD Newsbrief – Investment principles and risk
Balancing trade deficit and trade surplus
The UK runs a large trade deficit in goods each month (around £7.7 billion), alongside a trade surplus in services (of £6.6 billion).
International trade figures are notoriously volatile, but what we are seeing is a persistent deficit in the balance of goods trade averaging more than £7 billion in the last decade or so. None of this is good news for those who hope for a rebalanced economy, with less reliance on consumption and services, to one with a greater contribution from manufacturing and exports.
What is baffling is that the precipitous fall in sterling’s trade-weighted value during the credit crisis has not better supported UK exports. Between July 2007 and December 2008 sterling lost around 30% of its value when compared with a basket of other important trade currencies (the US dollar, the euro, the yen and the Canadian dollar).
In 2007, the monthly deficit in goods averaged £7.5 billion compared with nearly £7.9 billion in 2008, £6.9 billion in 2009 and £8.2 billion in 2010.
Perhaps the trade deficit might have widened further had it not been for the sharp depreciation in sterling which coincided with dramatic declines in economic output among our main trading partners – notably Ireland and the rest of the EU and the USA.
Barclays Capital Equity Gilt Study
The latest Barclays Capital Equity Gilts Study (EGS) was published in February.
Now in its 59th edition, the EGS continues to provide detailed analysis of the performance of cash, bonds and equities going back to 1899 for the UK and 1925 for the US. In both countries, last year’s investment performances had a similar pattern: equity markets rose strongly, while real returns on fixed interest and cash were negative.
Government bonds had a particularly bad time of it. In the UK, the 9.6% real terms loss posted by gilts was the worst performance in two decades. US Treasuries delivered a 13% real terms loss, which Barclays largely attributes to QE tapering. A single year’s returns make little difference to the long-term view that the EGS is able to take. But, if you make comparisons over short periods, changing the start or end year can have a significant impact on returns.
Last year, for example the EGS showed UK equity real performance over the five years prior (from the end of 2007 to the end of 2012) as -0.9% pa. The latest five-year results are much better – at +10% a year – thanks to 2008 (-30.4% in-year real return) falling out of the calculation and replaced by 2013 (+17.4%). The longer the timescale, the less dramatic such an effect is.
The EGS highlights the dispiriting performance of cash (as measured by Treasury Bills) over the last decade. Like all the numbers in the report, the figures are gross, so the loss would be greater for taxpaying investors. The last time cash posted negative real returns was back in the 1970s, when inflation was the problem. From 2003 to 2013 inflation averaged 3.3%, and in the first half of that period gross interest more than kept pace. Then came 0.5% base rates from March 2009, quietly doing the same damage to depositors as inflation did in the 1970s.
The EGS contains chapters on half a dozen medium- to long-term investment trends alongside the statistics, including the risks of deflation in Europe and the future of US housing finance. The most revealing chapter concerns cyclical adjusted price-earnings ratios, in which Barclays challenges the idea that the US market is markedly over-priced: if adjustment is made for sectorial differences, “the gap between the US and the rest of the world is in general meaningfully smaller.”
As usual, the long-term numbers in the EGS make a strong case for equity investment.
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