Developed markets should remain resilient to any slowdown in China, according to Rathbones’ Julian Chillingworth, while those more exposed to the country have a tougher time ahead. 
The chief investment officer (pictured) is concerned about the continuation of China’s growth slowdown. He isn’t the only one, however – fears have been further fuelled that the country is heading for a ‘hard landing’ by the recent devaluation of the renminbi.
This concern has spread to how this scenario is likely to impact developed markets, following the global market sell-off in August when investors panicked over the health of the world’s second-largest economy.
Performance of indices in August 2015
Source: FE Analytics
While Chillingworth expects emerging markets to continue to suffer due to the strength of the US dollar and impending rate rises from the Federal Reserve, he believes that developed markets will remain resilient.
In terms of the UK, the CIO says there are headwinds facing the market such as the upcoming EU membership referendum and the media portrayal of the Syrian refugee crisis, which could leave investors nervous.
He believes that the slowdown of China will also impact the profits of more global, large-cap companies listed on the FTSE 100 that are significantly exposed to China or Asia.
However, he adds that the economy appears healthy nevertheless, due to upward pressure on wages in the private sector and 12-month inflation expectations stabilising at around 1.3 per cent.
“The UK economy appears healthy. Unemployment remains low and wages are growing at the fastest pace since the 2008 financial crisis. This should underpin consumer spending, but inflation is expected to remain low,” he said.
“As quantitative easing has ended and interest rates will rise in the US and UK, we believe stock selection will be even more important for investment performance in 2016.”
The US equity market is another area that Chillingworth is fairly positive on, despite some investors arguing that valuations in the region appear stretched.
The market also delivered a lacklustre return in the first half of this year, with the S&P 500 index trailing behind the likes of the MSCI Emerging Markets and the FTSE 100 indices.
Performance of indices from Jan to June 2015
Source: FE Analytics
“Following a contraction in the first three months of 2015 followed by a sharp recovery in the second quarter, there have been mixed signals about the health of the US economy,” Chillingworth continued.
“Job creation continues to be strong, but inflation remains low and the Federal Reserve has delayed its first rate rise due to China’s slowdown. Yet there are many positives, including support from domestic consumers.”
According to data from Rathbones, the cost of household debt servicing in the US has dropped to levels not seen since the 1980s – this is of course supportive of consumer spending.
Combined with the correction earlier this year creating more attractive valuations in the region, this has led to the US offering stocks that are closer to fair value, according to the CIO.
“Corporate deals continue to be an attractive way for companies to boost profitability, particularly in healthcare and technology. In the past, such deals have been a forerunner of a bear market,” he added.
“In addition, some start-ups are enjoying generous valuations, despite a lack of earnings.”
Another developed market that could offer investors good opportunities, according to Chillingworth, is Japan despite its weak industrial production and low levels of consumer spending.
However, positive levels of inflation since prime minister Shinzo Abe introduced Abenomics in December 2012 suggests the economic policies are working. The number of women in the workplace has also increased substantially since, which provides a further boost to the economy.
“This is the year that Abenomics should be taking effect, yet the economy has been lacklustre, owing largely to weak industrial production and household consumption. However, inflation expectations are finally increasing,” Chillingworth said.
“Companies are responding to new corporate governance rules and other reforms. For example, share buyback announcements have increased substantially.”
The CIO says Abe is committed to completing his three-arrow programme of economic reform, and this has been further shown through shift towards equities by the Government Pension Investment fund, which is the largest pool of retirement savings in the world.
He believes that this could benefit the Japanese stock market even further if retail investors follow suit and become enthusiastic about investing in equities.
“Prime minister Abe appears committed to completing a programme of reforms that could lay the foundations for Japan’s long-term recovery. The announcement to cut the corporate tax rate should add momentum to corporate profits, wages growth and inflation,” Chillingworth added.
While he believes that developed markets and actively-managed equity funds are the best places to be in times of volatility, he still has reservations regarding investing in Europe.
The CIO says the Greek bailout agreement has simmered down and was not exacerbated by last month’s general election, while the Spanish anti-austerity party Podemos is likely to be part of a coalition as opposed to winning a majority position in the impending Spanish elections.
But he adds that high earnings per share forecasts in the eurozone have kept the equity risk premium at very high levels.
“The eurozone economy is growing and there are some positive signs. ECB quantitative easing has pushed up inflation but there are concerns that the slowdown in China may undermine the recovery, particularly in Germany,” Chillingworth warned.
“Europe’s equity markets are not cheap and valuations still remain towards the top end of their long-term averages. Sector-specific opportunities include financials, but any recovery will rely on the implementation of robust banking reforms.”
