Gong Hei Faat Choy or Happy New Year in Cantonese    

Market Overview:

A very happy Chinese New Year to you all, as we welcome in the Year of the Dragon, which I am told, is a much-revered symbol, representing power, strength, good luck and wisdom. Given that last year’s Rabbit, saw Chinese equities lose nearly 30% of their value, its hopefully safe to say things can only get better, but I guess you never know. China did stage a rally last week, more in responsive to technical measures designed to limit selling than any real good news, but it was a start and if it holds could perhaps bring in the ‘bottom fishers’.

But centre stage belongs to the US markets last week as the S&P 500 finally broke and held above the 5,000 level and momentum remains strong. The catalyst for the move was a downward revision to December’s inflation report. Updates to the consumer price index showed that the broad basket of goods and services measured increased 0.2% on the month, less than the originally reported 0.3%, the Labor Department’s Bureau of Labor Statistics said. While the change is only modest, it helped confirm that inflation was moderating as 2023 ended, giving more leeway to the Federal Reserve to start cutting interest rates later this year

Outside of that news on Friday, it was actually a very quiet week in terms of economic data, but we did hear a bit more from various members of the central banks last week, all leaning toward the hawkish side of things which probably weighed on the fixed income markets. We did, however, pass smoothly through another US debt auction as the US government sold $25 billion of 30-year bonds at a lower-than-anticipated yield, soothing investor nerves about demand for longer-dated debt. It would seem that a 10 year ‘risk free’ yield of more than 4% is still an attractive investment for some managers, who would no doubt have bitten your hand off for that security pre-covid!

Magnificent ‘7?’

I have largely steered clear of passing comment on the group of companies that have done the lions’s share of lifting the S&P higher, namely the Magnificent 7, but we have now heard the earnings reports from 6 of them so its probably worth devoting some airtime to this space. To recap, this is the new acronym that replaced the FAANGs and refers to Amazon, Microsoft, Alphabet, Meta, Tesla, Apple and Nvidia.  With a combined market cap of $13 trillion + and climbing, the combined market capitalization of Microsoft (MSFT), Apple (AAPL), Alphabet (GOOG), Amazon.com (AMZN), Nvidia (NVDA) and Tesla (TSLA) is now in excess to the combined GDP of New York, Tokyo, London, Los Angeles, Paris, Seoul, Chicago, San Francisco, Osaka, Dallas and Shanghai, according to Bank of America calculations ! That’s quite something

So far, with Nvidia the only one left to report on 21^st Feb, on the whole, (Tesla missed and may be dropped from the group) most surpassed revenue and earnings expectations and forward guidance suggests they remain on track to hit aggressive analyst expectations for the full year. Yes, by any metric the valuations are generous, but the bullish tone of the markets suggests there is room for expensive to become very expensive especially with all the hype surrounding AI. Every bubble needs a new narrative and AI seems to be the story that make typical valuations irrelevant.

Where have we heard that before ……Dot.com? To be fair, despite all the talk about the valuation of the Magnificent 7 being unsustainably high, the combined valuation of the big-tech sectors in which they operate would have to rise a lot more to reach its peak in the dot com bubble. Chart of P/E valuations kindly supplied by Capital Economics shows there is breathing room still and remember revenue trajectories are still on an upward path. Bubble or unusual investor insight -only history will answer that one ? But in the absence of anything obvious to derail earnings in the immediate future, I reckon this move in the juggernauts still has further to run …….

UK

The rich get richer and the poor get poorer , at least that’s one way of explaining the valuation and performance gulf between UK and US equities. Any UK based DFMs loaded up on UK equities on the simple basis of home bias are suffering, any that follow a world market cap allocation are laughing. The question is how long this can continue and I am afraid I don’t know the answer. I had the pleasure of a meeting with the Newton UK Income desk last week and they are similarly perplexed citing sector by sector, UK companies that are the match of their US peers (BP & Shell vs Exxon & Chevron) and yet trading on half the price

Economically at least, the spotlight will be on UK data this week. On Tuesday, there’s an expectation for wage figures to reveal the least intense salary inflation since 2022, a development likely to be welcomed by Bank of England officials who are at least shifting focus towards reducing interest rates, in line with global counterparts. Unfortunately, attention will also be directed towards Wednesday’s inflation numbers which might blip higher as energy costs have risen. The following day, GDP figures will shed light on the impact of the Bank of England’s monetary tightening on economic growth. Analysts predict that the UK’s economy flatlined in the last quarter, just managing to dodge a recession for the time being, we shall see.

Stepping away from US tech hype and short term economic concerns and thinking objectively about what we might expect from UK equities from here, I find myself (unusually) relatively positive. I think we will avoid a meaningful recession, yes we might get a technical one, and that through a combination of global strength, a resilient consumer, a recovering property market and some fiscal generosity we might begin to see UK economic growth picking up by year end. Couple that with the fact that inflation is definitely still on a downward trajectory and that we will see rate cuts this year, I think that is a healthy backdrop for equity markets. Feels like a boring 10% to me including dividends, which would still be a very useful contribution to a multi asset portfolio, with much less of the downside risk, so I don’t feel that it is time to just ditch the UK and go Global.

Europe

If I was a betting man (full disclosure I do have £10 on the San Francisco 49ers to win Superbowl tonight), I think the first central bank to cut rates will be the ECB or at least it should be them. Hopefully the committee will listen to the Italians (dovish by nature) as Governing Council member Fabio Panetta put it succinctly ; “Macroeconomic conditions suggest that disinflation is at an advanced stage, and progress toward the 2% target continues to be rapid,” he said on Saturday at the annual Assiom Forex event in Genoa. “The time for reversal of the monetary policy stance is fast approaching.”

Lagarde has said as much that ECB officials are preparing to loosen policy this year, probably from April or June, investors are hoping the earlier of the two. The outcome will hinge on inflation, with upcoming wage figures probably crucially being key and so far proving too stubborn to get the ECB to act.

Even without a clear turning point in wage growth, a bit of data interrogation shows that ‘Including one-off payments’ the new gauge showed salaries rose by 5.2% in the fourth quarter, down from 5.4% in the preceding three months. It’s a start. So with much of Asia closed for Chinese New Year, I will leave it there and see what next week brings