The past year has been an eventful one for financial markets with many delivering strong results despite headlines dominated by heightened geopolitical risk, a global economic recovery that has failed to meet expectations of sustainability and significant uncertainty regarding the timing and effects of monetary policy changes in major economies. Nevertheless, the year was not positive across the board — many individual markets struggled in this environment of increasing divergence in monetary policies and economic results.
Going into 2015, we believe many of these trends will continue as their underlying drivers remain in place and since policy and macroeconomic divergence between countries will increase the dispersion between global markets, necessitating an even greater focus on deep fundamental analysis to deliver positive investment outcomes.
Three important trends from the past year will remain important. First, there have been significant political changes in many parts of the world, with elections held in the US, Europe and large emerging countries like Brazil, Indonesia and India. While some of these political changes have had an immediate impact, others will take time to show their effects, significantly altering the trajectory of various economies and financial markets for years to come. Although political change in 2014 has been market-friendly in some countries, proving a boon to investors, in others the longer-term effects are less certain and will require investors to pay close attention.
Second, monetary policies have become increasingly differentiated. In the US, the Federal Reserve progressively wound down its quantitative easing programme as the economy improved, but other central banks — including the Bank of Japan, the People’s Bank of China and the European Central Bank — have either moved to increase monetary stimulus or are moving towards doing so. Yet others have been raising interest rates to combat inflationary pressures. This policy divergence will continue into 2015, likely creating further dispersion across equity, fixed income and currency markets.
Third, the divergence in macroeconomic results should continue to influence financial markets in 2015. In the US, headline figures have pointed to a relatively robust economic recovery after the surprise slowdown early in 2014. We expect the US economy, with its low unemployment, rising confidence levels and continued improvement in broad indicators of activity, to remain a relative bright spot in 2015 while other parts of the world continue to struggle.
Europe, in particular, has disappointed over the past year and may continue to struggle in the near term although a weaker euro may support exports over the next few quarters. In Japan, despite unprecedented stimulus efforts, the economy slipped back into recession in the third quarter of 2014, less than two years after recovering from the last one. In China, economic growth continues to slow as the country transitions to a consumption-led growth model and moves to curb some of the excesses of the past decade. Nonetheless, growth elsewhere in Asia is likely to remain robust in 2015.
In this environment, we expect the dispersion between markets to grow, and as correlations between individual markets will likely decrease, it will be increasingly important to become more selective and focused on fundamentals to determine growth opportunities. We believe old paradigms of global investing, such as viewing the world through the lens of “developed” versus “emerging” markets will no longer apply as countries’ underlying growth drivers and their interactions with the global system cause increasing dispersion in outcomes for individual markets.
Stephen H Dover
The writer is managing director and chief investment officer,
Local Asset Management, Franklin Templeton