A fall in oil price, a Petry victory in the German election and a 12-month Brexit delay are three of the biggest potential wildcards for investors as we head through 2017, according to Rathbone’s David Coombs (pictured). 
The FE Alpha Manager, who is head of multi-asset investments at Rathbones, says he is broadly positive on the UK and US economies, as highlighted in an article published earlier this week.
That said, he warns that ‘black swan’ events are always a risk to anybody’s portfolio and, in the below article, he discusses the three aforementioned potential wildcards and how best to position for them.
Oil price falls back to $20 as global growth stalls
Coombs says that, according to numerous industry commentators, the market is pricing oil at between $50 and $75 per barrel at the moment.
He says this optimism has been sparked by statements from oil companies regarding the research and development of new fields, as well as the recently-agreed deal between OPEC and non-OPEC countries to cut production.
Performance of index over 1yr
Source: FE Analytics
However, he warns that markets are relatively sanguine about the oil price at the moment and that it isn’t being widely discussed in the industry.
“If the oil price were to fall back to $20, that would have a significant impact. What might drive it? There are lots of potential factors but my guess would be if we suddenly saw a negative growth shock in China,” the manager said.
“For instance, if China had a banking crisis or Chinese authorities cut liquidity in the Chinese market to try and stall property growth. Or a Chinese hard landing, maybe.
“I am not particularly concerned about any of these things but I think that in itself would probably drive all commodity prices down, with oil being the most important. That would be a reason why the oil price could fall.”
Another potential trigger for a fall in the oil price, according to Coombs, could be Trump’s overseas trade policies, given these are largely unknown.
“If the oil price were to fall to $20, that would probably mean emerging markets would be hit quite hard, the high-yield bond market would be hit in the States, you would see defaults rise. It’s probably a big risk-off trade – it’s all about cause and effect,” he said.
“If it were to be driven by a Chinese hard landing for example, I suspect there would be pain everywhere, to be honest. It depends on what causes the oil price to fall.
“But my strong view would be that, if the oil price does fall back to $20, it would be because of a disappointment in global growth and maybe a global recession. That would be bad for consumer stocks, retail stocks.
“You would want to be underweight equities, probably overweight government bonds and, within equities, you would probably want to be overweight the US, staples and utilities. A good old-fashioned defensive portfolio, essentially. You would probably overweight Japan because you could benefit from a strong yen in that scenario.”
Petry wins German election and calls for in/out referendum on EU
Coombs says that, ironically, the election of controversial Republican Donald Trump as US president has made it less likely for far-right Alternative for Germany leader Frauke Petry to win this year’s German federal election.
He says this is because it would serve as a ‘wake-up call’ to non-populist party supporters and encourage them to vote.
If Petry were to win the election, however, he says it could have ramifications for European markets.
“It might not actually be that horrendous from an investment perspective, but it would certainly be a massive shock in terms of change in direction for German policy and what it would mean for the Eurozone,” the manager said.
“What would it mean for southern countries and would Germany carry on supporting them fiscally? It would create huge uncertainty across the region. You would definitely want to be underweight southern Europe, you would want to be underweight the eurozone and the euro.
“You might want to be long German and possibly Dutch bonds, but probably not Spanish or French bonds.”
Coombs expects there would be significant amounts of volatility across the board due to significant policy changes across the European Union, fear-mongering headlines and general levels of uncertainty.
Brexit delayed 12 months as May calls snap election
Coombs says that, out of the three potential wildcards listed, a Brexit delay is the most likely and could be caused by one of several catalysts.
One such catalyst could be the disarray of the Labour party and a Ukip lead in the Labour stronghold, with polls tipping party leader Paul Nuttall to win Stoke’s by-election.
“If Labour were to lose seats in stronghold areas, it would an opportunistic for Theresa May say, ‘do you know what, with Labour completely on the floor, I will go for a mandate’,” the manager said.
“That could potentially disrupt the Brexit negotiations. Do I think it’s going to happen? It’s not impossible.
“Of the three, Brexit delay is one that I am most worried about. [May’s] speech the week before last seemed to be pretty clear in terms of what the timetable was and I would be very surprised if she went back on that.
“But nevertheless, politicians are politicians. I’m not even sure if she could call a snap election because she would have to have approval from the Parliament and I’m not sure they’d give it to her.”
Coombs warns that there are other reasons Brexit could be delayed, such as stalled negotiations or the prevention of Article 50 being trigged by the House of Lords.
While he is positive on the UK at the moment, he says there would be greater uncertainty across the UK market and that sterling would fall even further.
Performance of sterling vs dollar since 23 June 2016
Source: FE Analytics
“Domestic UK stocks would get hit and would massively underperform so you would want to be in the overseas earners again, you would want to be overweight overseas revenues versus the UK,” the manager said.
“You probably wouldn’t want to hold gilts either, you would want to hold US treasuries.”
Since the start of our data in 2009, FE Alpha Manager Coombs has outperformed his peer group composite by 9.45 percentage points with an average return of 75.96 per cent.
He has done so with a comfortably higher Sharpe ratio (which measures risk-adjusted returns), lower annualised volatility and lower maximum drawdown (which measures most money lost if bought and sold at the worst possible times) over the same time frame.