The tough year investors faced in 2015 as a result of the China slowdown and an impending US rate rise could be set to continue this year, according to Gareth Lewis (pictured). 
The chief investment officer at Tilney Bestinvest, who oversees £9bn of assets, says that the shaky start to the New Year could be a sign of things to come, and warns there are tailwinds that investors have been pinning their hopes on that could simply be smoke and mirrors.
As such, the chief investment officer debunks some of the bull arguments that have been highlighted by market commentators in the below list.
Strong consumer sector in the developed markets
The collapse in oil and commodity prices has caused significant divergence between developed and emerging markets over the last year, as oil importers reap the benefits of having extra cash to spend while oil exporters experience weaker cash flows.
Performance of indices over 1yr
Source: FE Analytics
However, Lewis believes that lower oil prices for western consumers won’t have the significant impact that many investors expect it to.
“The problem is, in the western world which is the main beneficiary of a lower oil price, you’ve got a deteriorating demographic and we all suffer from an aging population,” he said. It’s not just Japan, it’s China, it’s the US, it’s Germany, albeit less so the UK because of immigration policy.”
“As you get older you spend less of your net income and save more. The driving force that has been expected to come through in consumer markets from a lower oil price doesn’t have the same impact as your population aging, because people are now more worried about their retirement.”
Not only does he say that consumption patterns change as populations get older, he believes that the implementation of quantitative easing across developed markets such as Europe and Japan has skewed consumption levels.
“[Former Bank of England governor] Mervyn King made the point that QE is specifically designed to bring forward tomorrow’s consumption for today. He said that in 2009 and we’re now in 2016,” he continued.
“Tomorrow has arrived, and effectively a lot of the consumption that has driven the recovery we’ve had in a looser sense has been created by ultra-low monetary policy and QE, and it’s brought forwards the consumption we’d be expecting in a normalised recovery.”
Another reason Lewis says the western consumer looks deceptively strong is because people are taking out large loans to buy products as a result of low interest rates.
An example he gives is the current car sales data from the US, which he says at first glance indicates a healthy consumer sector.
“I read somewhere that the average duration of debt to buy a car in the US is six years,” the CIO pointed out.
“I don’t personally, but most people want to change their car every two or three years, and they’re taking on debt burdens that are probably twice the length of the natural life of the car that they choose to buy.”
“That again is a sign to me that the quality of people borrowing is deteriorating. You only have very long term debt associated with depreciating assets, and the idea of actually borrowing money and paying interest on an asset that depreciates is strange enough, and then to extend the period for that length of time tells you there is stress in that area of the market, to my mind.”
The US economy remains strong
Low unemployment data, the strength of the dollar and the fact that the Federal Reserve has begun to tighten monetary policy has led many investors to believe the US economy is in good health.
Performance of currencies vs sterling over 1yr
Source: FE Analytics
However, Lewis says that this isn’t necessarily the case and that all of these aforementioned points need to be analysed further before investing in the region, which according to some investors is already exhibiting stretched valuations.
“I think the Fed have dug themselves in such a deep hole that there is very little policy option left for them. I think the increase in rates in December was more driven by a need to try and give themselves some aptitude for action further down the road rather than due to any realistic assessment of what’s going on in the US economy,” he said.
“The Fed should have tightened rates three years ago and they didn’t. The problem therefore in the US is that, by continuing to drive aggressive monetary policy after the point that it was going to have a real economic benefit, they’ve created a position where they’ve not had a proper default cycle.”
“You’ve got this problem where yields, particularly in US high yields and the corporate bond sector, continue to be excessively low, and that has driven investors into other yielding assets. Those assets tend to be oil and gas, and these are now beginning to become exposed to what’s going on in China.”
He adds that, aside from unemployment rates, all other economic data coming from the US is weak and that if anything, the Fed would have cut rates as opposed to raise them in normal circumstances.
“You’ve got to ask why the job figures are so good in the States,” he said. “If you look at the underlying numbers, a lot of the jobs that are being created are for the 55 and above age bracket, and a lot of these are relatively low value and temporary jobs.”
“If you’re in your 50s and you lose your job but don’t have enough money to retire, a lot of the US people are supplementing their income from their pension through whatever job they can get. That is what is driving the US employment data. It’s relatively low-value job creation.”
The banking crisis is over
Lewis says that in developed markets before 2008 the western banking system was insolvent, and that the only way to deal with an insolvency problem is to clear it as opposed to artificially support asset prices with liquidity.
As such, he says that it has created the perception of a recovery which isn’t there, and warns the problem has been buried under the weight of cheap currencies.
“If you look at data stretching back to 2002, markets have been unbelievably strong and that is liquidity at work, not fundamental asset allocation at work,” he said.
“Liquidity has buried an awful lot of the macroeconomic issues out there which has been reflected in the fact that virtually all asset prices have gone up almost indiscriminately over a long period of time. The challenge with that is that the liquidity hasn’t really done the thing it’s meant to do, which is boost the economy.”
Performance of sector prices over 10yrs
Source: FE Analytics
While he says that the banking crisis has mostly been fixed in the US and the UK, he warns that there are still significant banking issues in Europe and that these problems are rotating from the West to East into regions such as Asia and mainland China.
“If you wonder why China is actually keen to devalue the yuan, it’s because they’re worried about their foreign exchange reserves. They simply do not have the fire power to both deal with their banking sector problem and support the currency,” he said.
“That’s why I think the Chinese authorities are in a position where they’re fighting for their political futures. The Chinese political structure is predicated on incremental wealth creation, and as soon as that stops you end up with social issues.”
“There is undoubtedly tension in China which at the moment, is kept in check via wealth creation. I believe they will pull every possible lever you can imagine. They’ll cut interest rates, bank reserves will be cut, they will effectively do a debt-for-equity swap, they will intervene in the stock market, but the one thing they have to do is devalue their currency.”