The health of the global economy continued to be a key topic of debate throughout May, fuelled by inflation and interest rate tensions, changing consumption patterns and anxiety regarding the outlook for corporate earnings. Senior Portfolio Manager, Jeremy Richardson, reflects on the shifting patterns of news flow, and the need for diverse investment portfolios to navigate ever-changing macroeconomic and geopolitical uncertainties.
Watch time: 6 minutes 33 seconds
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Hello this is Jeremy Richardson for the RBC Global Equity Team here with another update.
Now I feel on a previous video I will have mentioned about two of the things that we’ve been thinking about, in particular how rising inflation is going to be likely putting pressure on the bottom end of the income distribution. And then secondly, the importance of having simple, straight forward businesses with easy to manage supply chains.
Well, both of those two issues became very pertinent for investors over the course of this month just gone with news from some of the US large big-box retailers that on the one hand they were seeing changing consumption patterns, potentially as consumers were shifting their spending away from more discretionary items towards more essentials and also a mix of services. And then secondly, the fact that that change in spending patterns was also putting pressure on their inventories leaving them over-stocked in many categories, particularly seasonal categories.
This actually had quite a significant impact upon the investors outlook for the economy. You’ll remember that we’ve been in this big debate about the health of the economy, whether or not the economic momentum will be able to withstand higher interest rates needed in order to suppress inflation. That tension has been very much at the fore front of investors’ minds and contributing to some of the equity market volatility that we’ve been seeing.
Well, this news at the beginning of the calendar month actually made people more cautious - perhaps the deceleration of the, particularly the US, economy might be bumpier than we’d anticipated and that’s not a good thing. So, all of a sudden, concerns over the quality and the size of corporate earnings very much came to the fore. But obviously we’d had quite a lot of price weakness, so we can think about a de-rating of the market, but actually it’s really that earnings that people have begun to be worried about because those price declines were really anticipating a series of earnings cuts. Maybe this news from the big-box retailers was pretending, you know, the analysts getting out their red pens to reduce their earnings forecast.
It hasn’t ended like that though so, you know, markets are always interesting, and they kept it interesting right until the end of the calendar month with some better news coming from two sources.
Firstly, different retailers who are perhaps servicing a more higher income consumer have noted that they are still seeing some signs of relative strength. And secondly, we’ve had economic data feeding into the Fed, suggesting that maybe some of the inflationary pressures are showing signs of rolling over a little bit, helped by US gas prices capping out I suppose if you put it that way.
So, this has sort of actually allowed people to sort of reflect upon the news. And I think has actually made people feel, perhaps as this month has come to an end, more confident that actually we might just be able to get the US economy touching down without some of that bumpiness that we’d initially feared, that maybe we might get something of a soft landing. And so that’s led to quite a good momentum for global equity markets towards the end of the month.
But arguably I don’t think it necessarily resolves the big topics that investors have got in front of them. You know, there’s always a few things that investors are having to worry about at any one particular point in time, and I think that the tension between inflation and interest rates continues to be a very live topic of conversation. This month has just shown how the changing patterns of news flow can get, and how sentiment can shift on that.
Secondly, there is now some genuine, concern might be too strong a word, but a little bit of anxiety around the outlook for earnings. Yes, the last quarters’ earning season was a good quarter, we’re generally seeing earnings upgrade, but how confident can investors be over the next couple of quarters in response to some of these cost pressures on the household budget?
Thirdly, we still have the global geopolitical situation that continues to be uncertain. Looks as though the Russia-Ukraine situation, as terrible as it is, actually there hasn’t been a significant new news to disrupt markets. And actually at the margin, there’s been a bit more positive news in terms of China’s experience with Covid with, as I speak, Shanghai expected to be opening up its retail industry as of tomorrow in fact. So, you know, a positive indicator, but let’s not get too carried away on that as opening up a city doesn’t necessarily mean you’ve got an exit strategy from Covid-zero, it’s not an equilibrium point.
So, a few puts and takes there for investors still to worry about. I think we’re still seeing quite elevated levels of volatility in the market, and we are responding to that as you would expect; with a focus on company fundamentals, paying attention to companies with strong competitive dynamics who we think are better positioned to be able to navigate their way through changing consumption patterns and interest rate outlooks, combined with disciplined portfolio constructions, so that we end up with good levels of diversification across the portfolio, recognising the fact that, you know, for investors that are focused on the longer term returns, predicting short term outcomes from these macroeconomic and geopolitical uncertainties is fraught with uncertainty.
I hope that’s been of interest to you, and I look forward to catching up with you again soon.