deVere Group: Investment Outlook January 2025
Andrew.J. Barros ACSI
Area Manager at deVere Spain SL | Wealth Management Consultant for the Expats and International Investors
Investment Outlook
Tom Elliott
A fortnightly look at global financial markets
8th January 2025
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Market sentiment: Cautiously confident. Global capital markets are waiting to see which of Trump’s proposed policies are enacted, when he moves into the White House later this month, and to what extent. Policies that can be done by executive order, such as tariffs, and some business de-regulation, are likely to come first.
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Investors also have to contend with the return of the ‘higher for longer’ interest rate theme. Sticky core inflation, largely in services, is holding back larger central bank interest rate cuts. The Fed is expected to hold rates at its January 28-29th meeting, barring any surprise in December’s labour market data, due out on Friday. Markets are now pricing in just one cut this year, in July.
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The Fed has been explicit in warning of the potential inflation consequences of higher import tariffs. Investors are also nervous of Congress passing unfunded tax cuts, increasing the budget deficit. Higher U.S Treasury yields are the result. They, in turn, are pushing up bond yields globally.
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In the U.K, a growing stagflation problem has added a domestic component to the issue. Yesterday, the 30yr gilt yield reached 5.25%, the highest since 2008. Weak U.K growth justifies rate cuts from the Bank of England, but a pick-up in inflation makes the bank hesitant. Higher interest payments on debt mean that Chancellor Rachel Reeves risks missing the key fiscal rule, that she set herself in October, of ending all borrowing that is not for investment by 2029. To achieve this in light of higher borrowing costs, higher taxes, or cuts in public spending, must follow. Both are politically difficult, and both will hurt economic growth.
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Fortunately for investors, the U.S economy is showing remarkable resilience with household consumption remaining strong, and we are seeing a broadening of earnings growth on the S&P 500, away from a reliance on contributions from Big Tech. The global economy is likely to grow at around 3% this year, similar to last year. This is at the bottom end of the 3%-4% range that many economists regard as ideal, but hardly in worrying territory. JP Morgan forecast improved growth in world corporate earnings this year, of around 12%, up from 7% in 2024*.
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Investors should remain diversified, across a broad mix of asset classes that include equities, bonds, property, alternatives and structured products.
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Monday demonstrated the markets’ sensitivity to Trump’s policies. The Washington Post carried a report on Monday, saying that Trump is considering less punitive tariffs than previously proposed. These currently range from a 60% tariff on some Chinese imports, to between 10% and 20% on imports from elsewhere. This weakened the dollar (fear of tariffs has kept it strong in recent months), and contributed to strong stock market gains on the day, with the S&P 500 up 1% and the NASDAQ up 1.5%. Trump later claimed that the report was ‘fake news’, leading to partial reversions on financial markets.
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The markets’ volatility that day demonstrates investor sensitivity to the tariff topic.
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There is plenty of value to be found. For all the justified concern surrounding geopolitics at present, there are currently many opportunities for investors. Starting with fixed income, gilts and Treasuries both offer returns well ahead of inflation, with yields on the 10 year benchmark bond in both markets currently at 4.6%. These yields offer a risk free, real return. Money market sterling and dollar cash funds also offer rates above inflation. This is the positive side of ‘higher for longer’ interest rates.
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Corporate investment grade bonds, high yield, and emerging market do offer higher yields and diversification benefits, but also introduce default risk. It is unclear if relatively narrow spreads over Treasuries sufficiently discount for this, particular amongst weaker names.
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While decent fixed income returns may limit equity returns for now, it is of course stock markets that generate most of the long-term growth in a portfolio. The ‘higher for longer’ interest rate theme is likely to hurt growth stocks more than value stocks. And we can find much more value in the 36% of the MSCI All Countries World index that is not the made up of U.S stocks, than the 64% that is the U.S.
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To illustrate this, compare forward price/earnings ratios: for U.S large cap stocks, the average forward p/e ratio is around 23 times, well above the long-term average. It is particularly high within the tech sector. In continental Europe the forward p/e ratio is a much more modest 14, the MSCI Emerging Markets index is on 13, the U.K 12 and China 10**.
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U.S tech stocks. Are the high valuation on the Magnificent Seven tech stocks justified? Supporters point to double digit earnings growth in recent years, and extrapolate this growth into decades ahead. But persistent strong profits growth tends to get competed away in a regulated capitalist economy (assuming that the regulators are at work, promoting competition and preventing monopolies). And tech is particularly prone to disruption. This view takes the line that U.S tech is currently priced for perfection, and so vulnerable to any disappointment. A sell-off in tech could easily lead to a sell-off of U.S stocks more generally, by risk-averse investors.
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The counter argument is that strong earnings growth amongst from the Magnificent Seven, can be maintained because we are only at the start of the AI revolution and these companies are in pole position to gain from it. Furthermore, the Trump administration does not appear interested in anti-trust crusades, which was a risk to Big Tech under the Biden administration. Their market dominance might, in fact, grow: there is approximately $350bn of cash sitting on the Magnificent Seven’s balance sheets, that could go on buying competitors, if M&A regulations are weakened (as Wall Street banks expect to see happen).
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The competing away of outsized profits, and avoidance of monopolies, can only happen in regulated capitalistic economies - as outlined two hundred and fifty years ago by Adam Smith.
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Tensions within the MAGA movement on policy have already emerged, particularly over immigration, the budget deficit and tariffs.
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The H21b visa scheme is vigorously defended by Elon Musk, while others say it allows foreign workers to undercut Americans.
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Regarding the federal budget deficit, Republicans control both houses of Congress. But they are divided in several ways on budget matters. For instance, is the budget deficit actually a problem? Trump doesn’t appear to think it is. His dislike of government is focused on regulatory bodies, the IRS, and the enforcement of laws.
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Musk’s promise to trim $2 trillion of waste, about a third of federal government spending, will certainly run into opposition from Trump and Congress. Neither will welcome proposals that might affect sympathetic voters, and which risk weaker economic growth if the deficit is curbed. And about two thirds of spending is on defence and entitlements, which Republicans have vowed to increase and to defend respectively.
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But there are a significant minority of Republican Congressmen who believe that the American governments should reduce the deficit, that sound fiscal policy forms bedrock for the economy and political cultural more generally. Musk will be looking for allies amongst these. Nevertheless, the odds probably favour Trump and Congress refusing spending cuts, agreeing to tax cuts, and so increasing the deficit.
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What does Musk want with Europe? In recent weeks we have seen Elon Musk increase his attacks on European governments. He has declared Germany’s far right AfD party to be the ‘last hope’ for the country, and in recent days has heaped abuse on the U.K prime minister Keir Starner and the justice secretary, for alleged inaction concerning a decades-old child exploitation scandal (‘lies and misinformation’, replied Starmer).
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Why? The scatter-gun approach to his comments suggest little interest, or patience with the truth, in the issue at hand. The connecting theme is a fanning of the flames that help populist parties in Europe. Perhaps because populist governments are more easily swayed by public opinion, that he can then influence. As he has found in America. Control of government policy means less regulation for his businesses, and access to subsidies/ tax breaks. Investors certainly believe his sponsorship of Trump will pay off: Tesla shares are up 70%, at $411 since the November election.
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His $250 million contribution to Trump’s election campaign, and his control of X, has bought him influence in the White House. It appears he is trying to replicate this in Europe.