By the time you read this, I will be soaking up the sun in warmer climes – I hope.
As I was leaving for my holiday destination, markets were continuing to struggle to make further headway despite the more positive start to the year. Given that the Greek problem had appeared to dissipate, we have to look elsewhere for the concerns assailing investors.
Central to these are fears that the slowdown in China will be sharper than feared. The Chinese authorities are already managing expectations on this front but even this has caused some dramatic falls in the prices of resources stocks. Last week, mining shares led the FTSE down to one of the biggest one-day falls in recent weeks. Plenty of pundits are now claiming that the long bull market in commodities is drawing to a close.
But oil continues to buck the trend. For how long this might continue is hard to assess but last week the Saudi oil minister went on record as saying that the price, at $125, was too high. He pointed to subdued real demand, which reinforces my view that we could soon be entering a period of a more volatile oil price. Commodity prices in general could be about to enter a less stable period.
If commodities might prove to be a trickier asset class for the immediate future, where else should investors be placing their cash? Not in government bonds, in my view. Recognising that I have called this asset class incorrectly in the past, I nevertheless find it hard to justify holding gilt-edged stocks or US treasuries at current yield levels. As it happens, the long end of both markets has been showing signs of cracking. Perhaps the retrenchment is about to take place.
While the shorter end of these markets owes much to the prevailing level of interest rates, the long end is more dependent on inflationary expectations. Last week saw inflation come down in the UK, with the consumer price index falling to 3.4 per cent in February, down from 3.6 per cent a month earlier.
The driving force was lower gas and electricity prices but the statement from the Office of National Statistics carried some less hopeful information. Alcohol prices are on the rise, for example, while interest rates are also trending higher for borrowers. This latter influence does not bear much weight in the CPI but the retail price index, which also fell – from 3.9 per cent to 3.7 per cent, will be affected if mortgage costs increase. Much of the comment I read in the wake of the inflation announcement was sceptical that the Bank of England’s forecast of meeting the 2 per cent CPI target by the end of the year would be achieved.
I am similarly dubious that inflation can be tackled easily, since many of the influences now lie outside the control of our Government and central bank.
A resurgence in global economic growth would push demand for resources higher, with all the effect that might have on commodity prices. It would be unwise to write off the commodity boom in its entirety, even if the shorterterm prospects are clouded.
Inflation, as I have said before, should be good for equities and property. True, high inflation would bring a separate set of problems but that would be most likely to occur if wage rises got out of hand – something it is hard to imagine in the current climate.
But a continuing weak domestic economy and growing demand from the emerging world seems likely to keep inflation higher than the authorities would like.
The case for equities looks better the more the fall in inflation slows.
Brian Tora is an associate with investment managers JM Finn & Co