Comment from Colin McLean, managing director, SVM Asset Management
- Themes of business disruption and economic stimulus likely to persist
- Investors could see more profit warnings in retail and finance
- Until real wages start to grow, expect governments to continue with stimulative policies
- New regulations on stockbroking commissions may make the stock market less efficient
Inflation and rising interest rates tend to help banks, industrials and mining businesses, and hit prospects for growth businesses. But, if inflation remains low, it could be another good year for growth in the global economy, continuing the performance of growth stocks.
Stock picking in 2018 may be nuanced, as it has this year, with individual company prospects the key. Themes likely to persist are business disruption and economic stimulus. There’s no slow-down in the arrival of new business models, particularly in retail and finance – both under threat from new mobile online services.
There have been some nasty surprises in these sectors in 2017, and the pattern of profit warnings could continue. New businesses need little capital to expand and are readily scalable, tackling cosy sectors with fat margins but poor customer value.
The winning disruptors are typically valued at a premium rating, reflecting their strong growth and cash flows. Nimble investors can avoid declining sectors.
Rising interest rates may not tell the whole story about the global economy. It looks like central banks want to slow economic expansion, but there is little sign of real overheating, even at near full employment. This may have something to do with poor productivity growth, technology and the gig economy, but it’s a persistent pattern across the Western world. Until real wages start to grow, governments are likely to continue with stimulative policies.
Rising interest rates may run alongside policies to boost growth. Disinflation has not been conquered globally, and bad businesses can’t expect an inflation bail-out.
The year will start with the new European regulations on stockbroking commissions, which could disrupt research. Investors should see lower commission charges, but the need to pay for stockbroking research in hard cash will be a revolution. It will herald big cuts in employment in the stock market divisions of investment banks, and is likely to shrink the availability of company research.
This may make the stock market less efficient, with share prices becoming more volatile and possibly more frequently out of line with fundamentals. Investing institutions will beef up their own internal research teams to take advantage of this.
Mispricing of shares – particularly in smaller and medium-sized companies – is likely to create greater opportunity for performance and reward for investors who have the skill to evaluate company prospects. In contrast, it may become a riskier world for index funds. Passive investing relies on research by others to get share prices “right”, but next year that free ride will bring new risks.
Those who use index and exchange-traded funds will still enjoy lower investment costs, but they can be less certain that others are doing the work of getting share prices in line with prospects. Active fund managers will conduct more research themselves, and may be able to manage this risk.
This economic cycle is proving unusually long, as is the bull stock market. But market patterns can persist while politicians are focused on growth. Rather than making wholesale change to portfolios, investors should take the opportunity for risk management. Start by considering whether any growth shares are now too highly rated, and look for signs of disruption changing business prospects.