MarketMinder Europe 

MarketMinder Europe

MarketMinder Europe provides our perspective on current issues in financial markets, investing and economics. Our goal is to analyse key topics in an entertaining and easy to understand manner, helping you see the news of the day in a unique perspective.

Investing in financial markets involves the risk of loss and there is no guarantee that all or any capital invested will be repaid. Past performance neither guarantees nor reliably indicates future performance. The value of investments and the income from them will fluctuate with world financial markets and international currency exchange rates.

The UK Is Lining Up Trade Deals

Whilst much of the media focuses on the trade-related spat between the UK and EU over the Northern Ireland protocol, UK trade negotiators have apparently been busy. Last week, they finalised a fishing rights accord with the EU and a trade deal with Norway, Iceland and Liechtenstein.[i] Next up on the UK’s trade agenda: a UK-Australia trade agreement scheduled for mid-June. Talks are also in progress with New Zealand, most of the Pacific Rim, India and America.[ii] Note: We still don’t know if all or any of these deals will happen—the EU fishing and the Norway (et al) deals still need ratification, for example. But the symbolism is noteworthy, in our view: Post-Brexit Britain doesn’t seem to be retreating from the world, confounding some financial commentators’ portrayal of Brexit as a protectionist, isolationist move. That is a good lesson, we think, in not taking political rhetoric at face value when formulating an equity market outlook and making investment decisions.

Five years ago this summer, in the wake of Britain’s referendum to leave the EU, we observed many commentators theorising that the vote meant the UK was turning its back on the world and global trade. We saw others go further, suggesting it was a sign globalisation was in retreat. Meanwhile, the negative thinking implied, the UK was shooting itself in the foot, there was no upside to severing EU ties and calamity would result. Whilst we took no side in the debate and were neither for Remain or Leave, this argument did overlook a simple point: Leaving the EU freed Britain to pursue new deals of its own. Now that appears to be happening in full swing, and we think those still waiting for protectionist disaster may be disappointed.

To see this, consider all of the UK’s recent trade agreement activity. Even before Brexit took effect, there was the main EU trade agreement struck Christmas Eve and deals with 67 countries to preserve the trade agreements Britain was party to as an EU member-state.[iii] Yes, some loose ends remain, like squabbles over the treatment of goods crossing the Irish Sea. But some of these have even been ironed out, including last Thursday’s agreement on fishing rights for the next year with the EU. Point being, this relationship will now look like most trade relationships globally. Occasional tiffs leading to talks and further deals. The heavy lift, the trade deal, seems behind us.

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Why the G7’s Tax Deal Is Probably Less Than It Seems

A landmark deal.[i] That is what we have seen many headlines call a global minimum tax agreement Group of Seven (G7) finance ministers reached over the weekend, endorsing a 15% minimum corporate tax rate and agreeing to tax multinational corporations’ profits where they are earned regardless of whether they have a physical presence in that country. But before presuming a tax hike is inevitable, we think a little perspective is in order. For one, US President Joe Biden and US Treasury Secretary Janet Yellen appear likely to encounter gridlock in America’s Congress, where legislators from both parties have indicated they are rather cool on the notion of sweeping tax change. Without ratification in all participating nations, the weekend’s deal likely amounts to nothing. Beyond that, the G7 is just seven nations, all of whom appear to gain more than they lose from this agreement, in our view. An actual global deal, whether via the Group of 20 (G20, a forum for 19 individual countries and the European Union) or Organisation for Economic Co-operation and Development (OECD), is another matter entirely, in our view. That is but one reason we think this weekend’s agreement isn’t a game changer for any one country—or for giant Tech and Tech-like companies, which many financial analysts think this tax plan targets.

Like all G7 communiqués, this breakthrough is a political agreement, not a new law. But if the participating nations pass the relevant legislation, it would establish a minimum tax rate of 15% for all multinational companies doing business in these nations. That includes big US Tech and Tech-like firms, which would have to start paying taxes in all nations where they sell goods and digital services, not just the countries where they officially domicile. The communiqué states this coordinated regime would replace national digital taxes, ending the US’s separate tit-for-tat battles with France and the UK. Yet it isn’t clear, in our view, that this will raise a ton of revenue for these nations or be a giant headache for businesses, considering the tax applies only to companies whose profit margins exceed 10%. The huge American Tech, Consumer Discretionary and Internet Media companies this tax seems to target could ensure their margins never meet that threshold—for example, by spending and reinvesting back into their business—helping them avoid the tax altogether. But even if they don’t, paying 15% in France, Germany, Italy and Britain, instead of booking all European profits in a low-tax nation like Ireland (whose corporate tax rate is 12.5%), isn’t exactly going to destroy after-tax earnings, in our view. If anything, it might raise barriers to competition from smaller companies, which we suspect is a big reason some Tech-like giants publicly supported this effort.[ii]

But we think that is largely where the significance ends. The G7 consists of the US, UK, Germany, France, Italy, Japan and Canada. Their corporate tax rates, respectively, are 21% (plus varying US state rates), 19% (with a scheduled increase to 25% in 2023), 29.9%, 34.4%, 27.8%, 29.7% and 26.5%.[iii] What do all of those numbers have in common? You guessed it: They are all a lot higher than 15%. The agreement doesn’t require any of these countries to raise their own rates to level the playing field for all. Instead, they all theoretically get a bit more of the global tax pie. Therefore, agreement amongst these seven nations was probably always the easy part, in our view.

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Levels Vs. Rates: Navigating Pandemic-Skewed Data

Last week, economic data releases showed April UK car registrations spiked 3,176.6% y/y—a huge increase, which some investors could see as bullish.[i] Britain’s inflation rate also “more than doubled” to 1.5% y/y—which may not be so bullish.[ii] Meanwhile, Japanese exports leapt 38.0% y/y, the “most in a decade,” whilst Taiwan’s export orders “surged” 42.6%.[iii] Then again, on the not so great side perhaps, Chinese industrial production growth dwindled to 9.8% y/y from March’s 14.1% (and from over 35% in January – February).[iv] Of course, lockdowns shuttering activity late last spring (early Q1 in China) heavily skewed year-over-year growth figures by vastly reducing the denominator in the calculation, driving the eye-popping results. Given such huge skew, how can investors get a better sense of where the economy is today? Instead of focusing on exaggerated rates of change, we suggest looking at economic series’ actual levels.

Headlines typically highlight rates of change. Take last Friday’s April UK retail sales report, for example. In value-spent terms, UK retail sales “soared” 43.5% y/y, accelerating from 7.3% in March.[v] (Exhibit 1) That figure may grab attention, but we think a growth rate far above anything in recent history lacks needed perspective for investors without added context. In this case, it mostly speaks to the low base a year ago—a look backward, skewed by the shutdown and reopening—which we think tells you little about where the economy is going. For investors in forward-looking markets, that is what counts, in our experience.

Exhibit 1: Record Year-Over-Year Growth Isn’t Quite What It Seems

Source: FactSet, as of 21/5/2021. UK retail sales value, January 2011 – April 2021.

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Markets Don’t Mind QE Tapers

Speculation about potential monetary policy changes is rampant throughout the financial publications we follow. One topic that has garnered particular attention: Will monetary policymakers reduce (or taper) the monthly asset purchases made via their quantitative easing (QE) programmes? The Bank of Canada (BoC) started doing so last month, and the Bank of England (BoE) followed suit two weeks ago.[i] Now, many commentators we follow wonder when America’s Federal Reserve (Fed) and European Central Bank (ECB) will taper their QE programmes, presuming this could hinder their economic recoveries. However, we think it is beneficial for investors to tune out the chatter. Our research shows monetary officials’ decisions can’t be forecast, and we have found tapering isn’t negative for economic growth or equities.

In our view, attempts to predict monetary policymakers’ moves aren’t useful for investors. For one, who will be making those monetary policy decisions isn’t set in stone. Take the ECB’s Governing Council, the bank’s main decision-making body, which consists of the Executive Board and governors of the 19 eurozone countries’ central banks. Though the Executive Board’s six members each have a permanent vote, the national governors also have a vote on monetary policy—and their voting rights rotate monthly. Moreover, monetary officials’ posts aren’t permanent. In the UK, the BoE’s Andy Haldane recently announced he was stepping down from his position in June. In the US, speculation is rife amongst financial publications we read over whether President Joe Biden will reappoint current Fed chair Jerome Powell when his term expires next February—if he still wants the job.

Moreover, monetary policy officials—being human—can change their minds. After the ECB reduced asset purchases for the first time in April 2017, we saw financial publications scrutinise then-ECB President Mario Draghi’s words for clues of whether another reduction was forthcoming in the summer. After seemingly telegraphing a soon-to-come taper in June, Draghi walked those comments back a month later—and the ECB didn’t taper again until January 2018.[ii] Officials at the BoE and Fed have also revised their guidance in the past. Former BoE Governor Mark Carney said an unemployment rate of 7% would be the BoE’s interest rate hike threshold in 2013.[iii] By early 2014, with the unemployment rate nearing that stated level, Carney updated his guidance.[iv] Similarly, former Fed Chair Ben Bernanke made a big show of providing numerical criteria for monetary policy decisions in 2012, saying a 6.5% unemployment rate would trigger hike rates, only for his successor, now Treasury Secretary Janet Yellen, to scrap it when she took the reins in 2014.[v]

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Will Energy’s Q1 Boom Keep Gushing?

Energy shares surged late last year and in Q1, outperforming all sectors with a 20.7% gain.[i] Fuelling Energy’s rise, according to many financial headlines we cover: Oil demand is improving whilst significant producers continue to hold back supply. That combination sent Brent crude oil prices (the common global oil price benchmark) up 24.0% in the quarter and 32.9% through 7 May, adding to enormous gains since April 2020’s low—a solid tailwind for Energy firms’ profitability and relative returns.[ii] Now many experts we follow see increasing oil demand from further economic reopenings, falling inventories and constrained supply as a sign more outperformance lies ahead. To us, that seems unlikely. We think prices largely reflect the chief, well-known tailwinds, whilst extant headwinds seem underappreciated. For long-term investors, some exposure to the sector is likely beneficial from a diversification standpoint, but its early leadership doesn’t look likely to persist, in our view.

We think it is worthwhile to revisit the backdrop for oil’s outperformance this year to provide context. Energy’s run followed a disastrous 2020 as COVID lockdowns crushed oil demand, causing oil prices to collapse. Accordingly, Energy companies faced steep losses, and the sector tumbled -50.7% from world markets’ pre-pandemic high to the sector’s 18 March 2020 low.[iii] Despite the recent surge, Energy share prices remain below pre-COVID levels.

Moreover, the pandemic wasn’t behind all of Energy’s woes, which our research shows are much longer-running. Global Energy underperformed in 8 of the past 11 calendar years (2010 – 2020).[iv]

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A Quick Lesson Hidden in the Eurozone’s Double Dip

After weeks of speculation amongst financial commentators we follow, it is official: The eurozone has double-dipped. Or, more formally, the eurozone’s gross domestic product (GDP, a government-produced metric of economic output) contracted in Q1. This is the second straight decline, signifying a broad decline in economic output is underway—what many economists call a recession. And, given there was another recession tied to lockdowns in early 2020, this second drop makes the return to contraction a double-dip recession. Whilst this was widely expected by financial commentators and economists we follow, the interesting thing about this one, in our view, is that it seems to defy widely watched business surveys that reported growth throughout Q1, which we will detail shortly. However, seemingly contradictory datasets don’t seem strange to us after diving into the dataset’s details—a big reason why we think digging into the data can be worthwhile for investors.

Of the eurozone’s four largest economies, only France (0.4% q/q) grew in Q1.[i] Italy (-0.4% q/q), Spain (-0.5% q/q) and Germany (-1.7% q/q) contracted, contributing to the eurozone’s -0.6% q/q decline.[ii] The results didn’t surprise the experts quoted in financial publications we follow. Many noted that ongoing lockdowns reduced eurozone output in the quarter, and we concur. See Germany, where COVID restrictions persisted in Q1 and may linger until the end of May or mid-June, based on government officials’ latest rumblings. That is a stark contrast with America, where states began easing restrictions in early March.

Those who monitor economic data closely may notice a seeming contradiction in this contraction: Why was GDP so weak even as business surveys reported growth? Take Germany, whose IHS Markit Composite Purchasing Managers’ index (PMI) registered 50.8, 51.0, and 57.3 in January, February and March, respectively.[iii] A Composite PMI combines output from both the services and manufacturing sectors, and readings above 50 imply expansion, according to the survey’s methodology. Yet German GDP’s quarterly decline was the sharpest amongst major eurozone economies.

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Little Lumber and Costly Chips: Inside the Supply Pinch

Timber! Well, lumber to be precise. Based on business surveys and media coverage we have seen, that is what businesses are reportedly in short supply of around the world, along with semiconductors, copper and steel. With supply down and prices up, financial commentators we follow globally are warning that the economic recovery from lockdowns is at risk. Demand may be heating up, but they warn that is no help if factories and builders can’t make enough gadgets and structures to meet it. We agree there are likely some challenges ahead, but we also think a little perspective is in order. Whilst this may present some headwinds to select areas of the economy, it seems overstated as an overall economic headwind. It is also well-known to equity markets, sapping surprise power, in our view.

Yes, it is true that if businesses can’t make things, people can’t buy them. Since the US and UK calculate gross domestic product by adding up all transactions in the public and private sector, when people can’t buy stuff, it detracts from growth.[i] (Gross domestic product, or GDP, is a government-produced estimate of economic output.) But the keyword there is stuff. Most developed world economies actually aren’t heavy on stuff—services accounts for the lion’s share of economic activity. In 2019, the last full year before lockdowns skewed the picture, sales of (or investment in) physical objects totaled 33.6% of US GDP.[ii] That includes consumer spending on goods, residential real estate investment, commercial real estate investment and business investment in equipment—all things that, to varying degrees, might incorporate lumber, steel, copper or computer chips. In the UK, the same categories generated a slightly larger share of GDP, 39.1%.[iii]

In our view, it is important to consider that shortage is not synonymous with none. Semiconductor foundries are still running day and night, and the Renesas plant shut down by a fire last month in Japan is back online. It should be at full capacity in July, according to the company’s estimates.[iv] Blast furnaces (which smelt iron ore to make steel), copper mines and saw mills are also chugging away. Now, all the reports we have seen indicate current capacity isn’t enough to satisfy demand, particularly in the US, but that doesn’t mean production of physical goods and structures grinds to a halt. Instead, it means producers likely compete for a limited supply. Purchasing managers will have their work cut out for them as they navigate price increases and negotiate with vendors—vendors who probably are trying to juggle an entire roster of demanding clients. That means, for the time being, there will likely be winners and losers at the industry and company levels. We are already seeing some short-term production stoppages amongst UK automakers who are awaiting new stocks of semiconductors.[v]

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A Busy Week in Politics Beyond Britain

Editors’ Note: Our political commentary is intentionally nonpartisan. We favour no party nor any politician and assess developments solely for their potential market impact.

Compared to last year’s tumultuous American election and Brexit-related trade negotiations, this year’s political scene is rather calm. But that doesn’t mean nothing is happening. Uncertainty is ticking higher in some places and lower in others, but all support the global gridlock we think is likely to benefit equity markets worldwide this year. Let us have a look.

German Players Move Into Position

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Takeaways From China’s Historic Q1 Economic Data

Editors’ Note: MarketMinder doesn’t make individual security recommendations. Any reference to an individual publicly traded firm herein is included merely to illustrate a broader point.

China’s latest economic data dump received a lot of attention amongst financial publications we cover, especially its eye-popping Q1 GDP (gross domestic product, a government-produced measure of economic output) growth rate. We also noted many analysts anticipating China’s economic recovery would likely slow in the coming quarters—a return to its pre-COVID normal—which we think sounds about right and should be fine for equities. In our view, Chinese economic figures are a useful, albeit imperfect, preview of post-pandemic economic life in the UK and other developed nations—a helpful way for investors to set their expectations for other major economies’ data.

Chinese Q1 GDP soared 18.3% y/y, a bit slower than some economists’ expectations, but still the fastest growth rate since the country began reporting quarterly GDP in 1992.[i] (Exhibit 1)

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UK GDP and a Lesson on How Markets Work

One of the central tenets of our investment philosophy, which we have mentioned here often, is that we think equity markets are forward-looking—they discount expected events over the next several months. Economic data, by contrast, are backward-looking. Data released now reflect activity that happened in a previous month, quarter or year. Therefore, if you are looking at economic data for clues into what equity markets will do, we think you are probably mistaken, as share prices will likely already reflect that earlier economic activity. This may seem like a rather abstract concept, so let us look briefly at a shining, timely example: February’s UK gross domestic product (GDP), released Tuesday.

GDP is a government-produced estimate of national economic output. Most countries release it quarterly, but the UK—like Canada—produces a monthly report, giving more insight into the economy’s short-term twists and turns. That has been particularly illuminating during the pandemic, as it gives a more detailed look at how the past year’s lockdowns have had varying economic impacts. England’s third lockdown took effect in early January, and that month’s GDP fell -2.2% from December.[i] But in February, there was a slight recovery. GDP grew 0.4% m/m, even as the entire country remained under lockdown.[ii] To us, that is a noteworthy sign of the country’s economic resilience, which we think probably benefits many people at a personal level.

But does it really mean much to shares now? Consider what happened the day before the Office for National Statistics released this report: Businesses began reopening from that third lockdown. That reopening has been scheduled since 22 February, when PM Boris Johnson announced it. Also widely known: The government’s plans to have all remaining restrictions lifted by 21 June, provided the virus doesn’t escalate again. For nearly two months, the government’s reopening timetable has been common knowledge—a fact investors were likely well aware of as they bought or sold shares. This is what we refer to when we say markets price expected events.

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Investing in financial markets involves the risk of loss and there is no guarantee that all or any capital invested will be repaid. Past performance neither guarantees nor reliably indicates future performance. The value of investments and the income from them will fluctuate with world financial markets and international currency exchange rates.

This article reflects the opinions, viewpoints and commentary of Fisher Investments MarketMinder editorial staff, which is subject to change at any time without notice. Market Information is provided for illustrative and informational purposes only. Nothing in this article constitutes investment advice or any recommendation to buy or sell any particular security or that a particular transaction or investment strategy is suitable for any specific person.

Fisher Investments Europe Limited, trading as Fisher Investments UK, is authorised and regulated by the UK Financial Conduct Authority (FCA Number 191609) and is registered in England (Company Number 3850593). Fisher Investments Europe Limited has its registered office at: Level 18, One Canada Square, Canary Wharf, London, E14 5AX, United Kingdom. Investment management services are provided by Fisher Investments UK’s parent company, Fisher Asset Management, LLC, trading as Fisher Investments, which is established in the US and regulated by the US Securities and Exchange Commission.