Gardiner (pictured), chief investment officer for Europe at the private client firm, says that over the longer term people will be rewarded for staying invested, but anyone sitting on cash would be wiser to sit back until the market corrects and a buying opportunity arises. “We’ve pulled back from developed markets in the short-term and have an overweight position in cash,” he said. “We want to use that opportunistically to move back into developed market equities if and when there is a setback.”
Many of the positive signs of economic growth that are coming through, particularly in the developed world, are also harbingers of short-term volatility, Gardiner says, though he thinks the general trajectory of markets will be up this year.
“We can see the signs of excess in the private sector in the US that would make us brace for a setback,” he said.
James Abate, manager of the Psigma American fund, has gone even further with his gloomy prediction for the US in particular, warning that the combination of rising inflation and low growth is a recipe for disaster.
“As we enter 2014, despite a bottom-up optimism, we are less enthusiastic about the prospects for further sizable gains in US stocks as a whole relative to what we believe is a very bullish consensus,” he said.
“The ‘Goldilocks’ environment of 2 per cent growth with no inflation will continue for the very near-term, but we expect increasing concern as the year progresses and we think higher inflation in 2014 and a recession in 2015 is a growing possibility.”
Gardiner thinks that a market fall would be a short-term event and says investors need to remember that economies are more likely to grow than retract.
“We’ve all forgotten it’s the norm, not the exception [for economies to grow],” he said. “Developed economies seem set to accelerate a little in 2014, and the US, euro area, Japan and the UK are likely to grow together for the first time since 2010, with the dispersion of their growth rates the lowest since 2002.”
He adds that the threat of rising inflation is a limited one.
“We see little immediate inflation risk in the developed world. The prospective uptick in growth is too small to take a meaningful bite out of spare capacity – there is still a lot of slack in product and labour markets – and commodity prices have softened,” he said.
“And the massive expansion of central bank balance sheets will only translate into inflation risk if and when the cash in the banking system translates more fully into money supplies – for example, when “too much money chasing too few goods” becomes a reality.”
Even so, there are a number of risks on the horizon that investors will need to consider before putting money into the market, namely rising bond yields and rising interest rates.
“If the growth rate is accelerating, the thing we have to focus on is the normalisation of monetary policy,” he said.
Gardiner says investors have to accept that bond yields will continue to rise through the year and that interest rates may head north sooner than expected. He adds that while central banks continue to assert interest rates will not rise in the near-term, he argues the move is not really up to them.
“Short rates will go up when economic data suggests keeping them low is no longer tenable,” he said. “Short rates may normalise more quickly than everyone is expecting.”
From a valuation perspective, battered emerging market stocks may look more attractive than developed markets, which have experienced a strong rally over the last 12 months; however, Gardiner says it is too soon to be exuberant about growth in the developing world.
The MSCI Emerging Markets index fell sharply in the summer correction last year and failed to make up much ground by the start of 2014. The index ended the year down 4.41 per cent, more than 20 percentage points behind the leading developed market indices.
Europe was the big winner last year, with the DAX gaining 29.18 per cent. The S&P 500 made a sliver less, picking up 29.1 per cent, while the FTSE 100 gained 18.66 per cent in 2013, according to FE Analytics.
Performance of indices in 2013
Source: FE Analytics
“Stocks have gone up a long way and are not cheap, but stocks, developed market stocks in particular, are not yet expensive,” Gardiner said.
However, he claims the emerging markets story has been overplayed in recent years and the sector is not set for a rebound just yet.
“The emerging markets story was too easily accepted. People forgot there was local risk in emerging markets,” he said.
He adds that as growth in emerging markets slows and growth picks up in developed economies, the gap between the two will narrow.
“The emerging world may continue to grow faster, but its lead may narrow further, to its lowest since 2002,” he warned.
