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Shifting sands – how fundamental are the changes in world markets?  

There are significant forces at play in global markets, which look set to change the investment landscape for some time to come. This is in no small part driven by the ongoing conflict in Europe, alongside climate change concerns which are prompting a shift away from traditional supply chains and a reliance on fossil fuels. Charlie Buxton, our Head of Investment Management, shares his thoughts on the current state of play and some of the considerations for investors.

World markets face enormous challenges in the coming months. With Russia weaponising its natural gas supplies, and Europe likely facing – if not already in the midst of – a recession this winter, the storm clouds are gathering. Added to this backdrop is the end of the supportive monetary policy of the last few years, as central banks press ahead with aggressive rate hikes in an attempt to tame high inflation.

De-globalisation in action

Until this point, globalisation has meant that international firms have had the pick of labour and materials, facilitating cheaper prices. The situation we’re seeing start to play out now – one of de-globalisation – will likely add to already rising inflation. This brings with it challenges for everyone, at least in the short-term. The most obvious signs of this deglobalisation are the ongoing tensions between the US and China, only heightened by House Speaker Nancy Pelosi’s recent trip to Taiwan

It is of course not all doom and gloom. Some changes are for the good –a reduced reliance on Russia and a shift away from the use of fossil fuels are undoubtedly for the benefit of us all, including our planet. However, it’s important to accept that this is a long-term position and in the short-term countries will still depend on fossil fuels, as the current energy crisis has clearly highlighted.

From a currency perspective it’s important to consider, given the magnitude of the energy crisis, – the pound has struggled against the dollar (recently hitting its lowest point since the 1970’s). The UK’s productivity growth – a key measure of true wealth creation – has struggled since 2010. All the focus is now on new Prime Minister Liz Truss, the recently announced mini-budget, her policies on energy and how she’ll look to support consumers against rising prices, when UK inflation is already at 10.1%.

How is the global picture changing?

The global landscape now offers something of a reality check.  Faced with a period where inflation and interest rates are rising, if other spending isn’t cut debt will rise too – particularly if taxes are reduced as well, as is being touted by Liz Truss.

Some factors might help to lower inflation, not least speeding up the transition to cleaner energy sources, securing new supply chains and the G7’s plans to invest $600bn into infrastructure to respond to China’s Belt and Road Initiative Furthermore, if China softens its approach to zero-Covid, there could be an easing of pressures across supply chains which are currently adding to the inflation picture; more details of how this might look should come after the Chinese Communist Party’s Conference next month. It’s important to remember that whilst central banks can try to stymy demand via interest rate hikes, they will have a limited impact if supply constraints – like this – remain in place.

Investment considerations

Against the backdrop of this enormous economic shift, there are some key factors for investors to be aware of. In the next few months markets are likely to be volatile, with the situation in Europe being exacerbated by Putin’s weaponisation of natural gas, and consumers and corporates struggling in a high inflation, high interest rate environment.

However, there are still opportunities, particularly with a long-term investment horizon in place. Firstly it will be important to keep a careful watch on current global tensions. Any easing in relations between Russia and the West – however unlikely that might seem right now – is likely to be well received by markets, and the upside potential could be significant.

As mentioned above there may come a time, perhaps in the not-too-distant future, where China softens its approach to zero-Covid. It’s worth bearing in mind that China might be carefully weighing up how much longer it wants, or can afford, to be isolated from the outside world. Recent trade numbers continue to concern, with export growth decelerating from 18% year-on-year in July to 7.1% in August. Tentative signs are emerging of a softening in approach, with President Xi planning visits to foreign countries in the coming weeks.

Most companies are still increasing, or at least maintaining the same dividends as last year, supporting the total return component of investing. It shouldn’t be lost that whilst price fluctuations will always persist in markets, the dividend stream is an important part of overall returns, and so far, these have remained resilient.

This is an interesting time for global markets, faced with a wholly different set of factors to recent years, with fundamental shifts playing out day by day. Yet opportunities remain, and it is often in times like this that attractive entry points in markets present themselves.

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