Down, up, down, the monthly pattern of market moves over the first quarter left investors with the sense of much effort and activity expended, with precious little to show for it.
The results season, with its usual plethora of statements to pore over and companies to meet, can be described as mixed at best. Headwinds from the strength of sterling caused many currency-related downgrades to profit expectations. Disruption from severe weather in the US and flooding in the UK affected some. The ongoing slowdown in China and deceleration or disruption in emerging markets hit others.
Behind most bank results could be detected the invisible hand not, alas, of Adam Smith’s capitalism but of the Prudential Regulation Authority pushing for still greater capital buffers, with some consequent disappointment over the pace of future dividend payments.
Meanwhile, after some excellent results, life insurers were hit with a triple whammy of the Budget abolition of compulsory annuity purchases, caps on pension charges and the leaked over-dramatisation of the FCA’s year-ahead investi-gation plans.
With so many uncertainties over economic prospects in most parts of the world, the tone of outlook statements was unsurprisingly cautious. Coming after two years of buoyant equity markets despite two years of – in aggregate – falling UK corporate earnings, shares have re-rated in anticipation of profit growth which is not yet fully being delivered.
Need for broader growth
Equities cannot push forward meaningfully out of the top end of their current 6,200-6,800 trading range on the FTSE 100 until there is stronger and more broadly spread growth in corporate profits. Fortunately, apart from the currency headwinds, this is likely to happen over the balance of the year. As the weather-related disruption in the US fades, the strength of private sector activity which was masked last year by public sector constraints should resurface. Newsflow in Europe points to continued improvement, notably in the periphery.
China’s brake, brake, dab on the accelerator policy should alleviate concerns about a further material slowdown there. Meanwhile, here in the UK, growth continues. While we cannot rely on a further drop in the savings rate, which clearly boosted spending last year, the acceleration in housing transactions as government schemes improve credit availability is set to continue both this year and next. Housing transactions have finally risen back over the one- million-a-year mark but remain well below their long-run average of 1.7 million a year.
Rising job vacancies suggests the steady, persistent growth in employment we have enjoyed in recent months will continue. Counter to the naysayers, growth in full-time jobs exceeded part-time jobs last year by 10 to one. At over 30 million, the number of people at work in the UK is at a new all-time record high, even though, courtesy of an expanding population, the employment rate is still a few percentage points below its previous peak.
For six long years since the finan-cial crisis, real wages have been falling in the UK. It is this, rather than austerity measures, which has been the main cause of economic stagnation and the public sense of gloom. At last, this year, the squeeze on real incomes should end.
Further inflation falls
Inflation is falling away under the combined influence of stable oil prices, some freezing of utility prices and intense competitive pressure among food retailers. Inflation may well fall to 1 per cent or lower this year, boosting real incomes just as further uplifts in personal tax allowances increase take-home pay.
In addition, inflation falling to the bottom of the Bank of England’s target range hardly provides strong ammunition for the central bank to start raising interest rates any time this year. Falling inflation, positive growth in real incomes, further growth in employment, increased housing transactions, gently rising house prices, a dovish Bank of England – all of this should maintain the momentum of recovery and growth in the UK.
In turn, this should drive the improvement in corporate profits which today’s equity valuations demand – and which we need to push the market towards a sustained attack on its previous peak level of just under 7,000 on the FTSE 100. Whether we breach this huge psychological milestone in 2014 or 2015 rests largely on how long it takes for this economic growth to feed through into positive profits surprise and earnings upgrades. Until then, stand by for more months of busily going nowhere.
Richard Buxton is manager of the Old Mutual UK Alpha fund