Focus on value stocks as fairytale could be over for Goldilocks economy
COMMENTATORS REFER to the economy at the end of 2017 as ‘Goldilocks’ on account of it being not so hot to cause inflation, not so cold to cause recession but just right to sustain full employment and stability. Unfortunately, some of those commentators also believe that 2018 will be the year that Goldilocks topples. The days of low unemployment, increasing asset prices, low interest rates and steady GDP growth with low inflation, all supported by Central Bank stimulus, look to be numbered and those investors who have taken a more passive stance over the last 12 months, may need to switch to a more active style to benefit from the forecast changes.
The shift in market mentality is likely to come about as several Central Banks begin a synchronised programme of monetary policy tightening as interest rates start to rise in some developed economies after record lows, and Quantitative Easing becomes Quantitative Tightening. As this scenario plays out, we expect to see the return of volatility in currency and stock markets with the impact of these unprecedented macroeconomic developments being closely monitored and Central Banks ready to make swift adjustments if the economy heats up too quickly. Global politics are also likely to take centre stage through 2018 with general or presidential elections due in Italy, Brazil, Russia and Mexico and much focus given to Donald Trump and his US tax reforms. Closer to home, the Brexit situation remains unclear with some believing that Brexit discussions are already at an advanced stage, whilst others feel that the Brexit destination is vague. Though ‘Black Swan’ events such as a Corbyn government or no Brexit seem unlikely, it would be unwise not to keep all potential political scenarios on the radar.
In terms of positioning portfolios for the next 12 months, we feel that those stocks which performed well in a Goldilocks scenario will do less well when the reverse is true, hence our preference for value stocks over growth stocks. Growth stocks have been driven higher whilst interest rates have been low, but these stocks, with high valuations, now appear vulnerable in light of the changing environment. Cheaper cyclical stocks, for example banks, consumer discretionary companies, industrials and energy stocks, could all fair well as sentiment changes.
In terms of global focus, Japan looks particularly interesting for 2018 due to its stable economic and political backdrop and a Gross Domestic Product (GDP) figure which has increased over the last six consecutive quarters. A fund which focuses on good value Japanese companies could be worth considering as part of a diverse portfolio if the Goldilocks story is drawing to a close and the three bears are beginning to raise their heads again!