IT may have been the wettest April on record in the UK, but it’s a different set of seasonal effects that are now unsettling many investors.
There are some good reasons for nerves: a large portion of the euro area electorate voted against austerity measures over the weekend and there are more elections to come in the region; the economic data is patchier than it was; and there are still sizeable profits on the table to be taken by trigger-happy traders.
The issue is not whether some near-term volatility is likely, but whether we should advise investors to take avoiding action. We still think not. Selling risk assets now could leave them stranded in cash or expensive bonds if the rally resumes (as we think it will).
The voters’ rejection of euro area austerity is not likely to result in a major volte-face by their governments. There will be more talk of strategies for growth, and fiscal retrenchment may slip further. But few politicians now believe that you can simply legislate for economic prosperity, and many voters subconsciously recognise as much.
When the electoral dust has settled, the economic agenda will still be dominated by declining budget deficits and structural reform – allowing the ECB to continue to underwrite the painfully slow progress towards fiscal integration by acting as lender of last resort. Last month’s renewed jitters in the Spanish and Italian bond markets have not prevented the interest rates charged by European banks when they lend to one another (called Euribor) falling to a new post-August low, and another sizeable Long-Term Refinancing Operation (LTRO) – should one be needed – is likely available as a further backstop. From our perspective, the latest patch of poor economic data still leaves the big picture intact. Although survey numbers have been weaker than expected, they are not yet sufficiently so to alter the likely duration of the recession in the euro area. At 24% Spanish unemployment is daunting, with no peak yet in sight, but sadly, it has averaged 15% for the last quarter century. Unemployment in Germany, at 6%, is at 20-year lows. Overall, euro area unemployment is at 11%, a record high, but within two percentage points of its long-term average.
Against this backdrop, companies continue to report solid profitability and balance sheets, while equity valuations remain firmly below both their long-term averages and the levels warranted by that profitability. For this reason you won’t see us ‘sell in May and go away’ where developed market stocks are concerned. The same is true of high-yield bonds, although the valuation case for them is less compelling than at the start of the year. We continue to see volatility as an opportunity to add to long-term positions – for investors with balanced portfolios, this means cutting down on government bonds in favour of such risk assets.
:: Andrew Miller is regional office head of Barclays Wealth in Newcastle