Five questions for investors in 2024

2023 was ultimately profitable for most investors, although far from plain sailing for long periods. As we start a new year amid a more favourable macroeconomic backdrop than 12 months ago, we look ahead to a number of pressing issues and potential catalysts that could significantly impact markets. As ever, there is a lot going on from nearly half of the global population heading to the polls in 2024 — with an expected UK election and a scheduled US election top of the billing — to heightened geopolitical tensions in the Middle East and Far East and the ongoing war in Ukraine. We explore five key questions investors may be asking:

1. Is the current market one that favours trackers or active investment?

There has been a huge increase in popularity in passive investing through trackers over the last decade or so, but we believe the current environment is primed for active management to excel. The era of ultra loose monetary policy favoured passive investments — a rising tide lifts all boats — but, in our view, the current environment provides far more fertile ground for stock picking. We do see the value in using trackers to swiftly gain exposure to regions/ themes but overall we believe active management will deliver superior risk-adjusted returns.

A defining feature of last year’s rally was the narrow breadth of leadership, with the so-called “Magnificent Seven” stocks — Alphabet (Google), Amazon, Apple, Meta (Facebook), Microsoft, Nivida and Tesla — delivering a significant proportion of returns. A common misconception with passive investing is its level of diversification and after last year’s sizable gains this handful of huge companies accounts for a significant proportion of not only US indices but even global benchmarks — their collective weighting is around a sixth of the MSCI All Country World Index, a larger proportion than the cumulative weighting for all UK, French, Japanese and Chinese stocks.

There is a danger of projecting recent results into the future. Over the 10 years to 31 December 2022 the MSCI All World returned 205%, MSCI UK 82% and iBoxx Gilts 4%. However, the 10 years to 31 December 2009 saw returns of MSCI All World 10%, MSCI UK 14.5% and iBoxx UK Gilts 70%!

2. Historically, how much influence do UK and US elections have on markets and do markets favour the right over the left?

Elections in the UK and US have typically had clear impacts on the market and provide a number of opportunities. Historically, the year leading into an election see incumbent parties attempt to boost their re-election chances by stimulating the economy. The UK Spring Budget is scheduled for 6 March and it’s worth keeping a close eye on any giveaways from chancellor Jeremy Hunt in a bid to attract voters — the Autumn Statement provided several sweeteners that suggest more is to come.

It’s difficult to characterise historic market reactions as a clear preference for right or left leaning governments as these definitions themselves are relative and have changed considerably over time. We find it more useful to focus on the fiscal plans of those elected, with monetary policy conducted by independent parties for several decades now. In the case of the UK, Labour currently hold a considerable lead in the polls but their future fiscal plans in aggregate don’t represent anywhere near as dramatic shift from the status quo as they did in previous election – for instance when Jeremy Corbyn was party leader.

While the UK elections are important for UK assets, they are unlikely to have far-reaching implications on global markets. However, the same cannot be said of the US. The market reaction to the 2016 US election shows just how impactful these can be, although this time out we would expect less volatility as a Trump victory would be less of a shock — Trump is currently the bookmakers’ favourite.

3. Are the biggest headwinds to markets this year economic, political or other?

One of the clearest headwinds we currently see is the difficulty in exceeding market expectations for interest rate reductions. The re-pricing of markets to a lower expected rate path was the main catalyst for the rally in the last couple months of 2023 and there is a concern that expectations have built up so much we could be in for some disappointment. With inflation moderating considerably in recent months the case for lower interest rates has attracted far more support as base rates in the UK, US and Eurozone are currently comfortably higher than inflation metrics — meaning firmly positive real rates.

This allows central banks some headroom to loosen policy without moving to a strongly expansionary stance. However, with six 25 basis point reductions this year priced into US interest rate futures markets, reflecting an end of 2024 Fed funds rate under 4% (currently 5.25%-5.50%), there is plenty of scope to disappoint. Economic data at the start of 2024, particularly strong labour market figures, has done little to pressure the Fed to embark on reducing interest rates and the market is expecting a move lower to begin as soon as March.

As economic and political events are often intertwined it’s a little difficult to distinguish clearly between them. In general, we see a number of known unknowns regarding UK and US elections, the path of inflation and central bank interest rates and a general increase in geopolitical tensions. We are watching all these closely for possible headwinds but there remains a heightened level of uncertainty as to how they will develop.

These dynamics are also interlinked, as for instance the outcome of the US election will likely impact the path of inflation and central bank rates and geopolitical relations. But the cause and effect could run the other way. Geopolitical events could impact inflation and central bank rates which then impact US elections.

Furthermore, there are also unknown unknowns to be on the lookout for. Several of these occur every year and by nature are unpredictable. These can provide even greater market shocks, purely due to their unforeseen nature — “black swan” events tend to cause the biggest headwinds.

4. Is the China slowdown a concern?

The slowing of the Chinese economy is a pressing concern. As the second largest economy in the world and a key player in a huge number of supply chains, a stuttering Chinese economy has a clear adverse effect on global growth. Several of the largest UK stocks are also fairly sensitive to events in the far east — such as the miners — so the impact is felt close to home too.

Having said that, China is still a fair way from entering a recession, even if you pare back some of the dubiously strong growth figures they produce to better reflect reality. Last year was an interesting example of expectations failing to be met, as many investors believed a China re-opening from Covid 19 restrictions would produce a boon for global growth. This failed to transpire anywhere near to the extent many hoped for, but the economy is still in a better place than it was a couple of years ago when draconian lockdown measures were strictly enforced. What is more, sentiment in the region is now so pessimistic it would not take much for output to exceed downbeat expectations.

5. Reasons to be cheerful. In which asset classes do you see opportunity this year and why?

There are several reasons to be cheerful as an investor at the moment and we believe the current investment landscape is significantly more attractive than it was 12 months ago. Bond yields are now offering substantial returns and it seems like central bankers in the UK, US and Eurozone have little appetite for further interest rate increases. This is the first time in 15 years that there has been sizable yield on offer from government bonds and high-quality investment grade corporates provide a pick up over and above that.

The strength of the global economy remains a potential concern. However, the current yields on offer mean that investors can position themselves to receive a decent coupon that will be boosted substantially by a bond market rally should central banks have to cut interest rates significantly to stimulate the economy. Global equities on the whole are quite fairly valued in our opinion so despite concerns surrounding the strength of the US and a handful of large tech stocks we do not see characteristics of a bubble. UK equities are currently trading on a discount to longer-term averages and we see some real value in the space. The closed/end investment trust sector has had a hard time of it of late due to the rapid increase in interest rates and many of these trade at substantial discounts. Due to this they are ripe for shareholder activism, in our view, whereby some of the hidden value can be realised.