SINGAPORE (Mar 12): The list of worries is growing longer. While we remain upbeat on the health of the global economy and corporate earnings prospects, the environment is shaping up to be more challenging for investors.
Markets have barely recovered a semblance of calm from the bruising correction last month, which was triggered by inflation-driven fears of higher interest rates. The week of March 5, stocks were again buffeted, this time by concerns of trade war and uncertainties from an Italian election that produced no outright winner.
Really, we should no longer be surprised by US President Donald Trump’s “surprise” tweets. He will continue to be a source of volatility for markets, given his penchant for throwing curve balls.
His latest plan to impose across-the-board tariffs on steel and aluminium imports showed a hardening protectionist policy. In January, markets had brushed aside a similar move to slap tariffs on solar panels and washing machines as largely inconsequential.
However, this latest announcement does up the ante significantly. It suggests the intent to make good on his election promise and raises concerns of what will be next in his line of sight. The White House has been giving hints of broader restrictions against China.
But the more important question is: Will the rest of the world continue to indulge in his “eccentricity” or will countries start to retaliate with meaningful actions beyond just rhetoric?
In no version of any narrative is a full-blown trade war good for the global economy.
Indeed, one of the main reasons behind subdued inflation (that is driving the recovery and growth) has been the benefits from globalisation — the cost savings and production efficiencies gained from the unfettered movements of goods, services and human resources, all of which lowered costs to consumers. The other driver of this secular trend is, of course, technology and digital transformation.
But the backlash against globalisation is growing, driven by the widening income inequality, rise of big businesses and trust deficit in political and economic elites. We saw it in Trump’s election and Brexit and, more recently, the election results in Germany and Italy.
While the populists did not win outright power in the largest and third-largest economies in the eurozone, they have gained sufficient traction to keep populism on the mainstream agenda for years to come.
A rollback on globalisation and reversion to trade protectionism will fan inflationary pressures, which could, in turn, lead to steeper- than-anticipated interest rate hikes. That should concern markets.
Interest rate and stock valuations have an inverse relationship. To put it another way, higher interest rates would require a higher dividend and earnings yield from equities, causing equity prices to fall.
Last week, I mentioned how a sharp rise in interest rates would have a huge negative impact on bonds. That, in turn, will have a cascading effect on equities, owing to redemptions, and especially since exchange-traded funds have taken large stakes in many companies.
I also said that interest rates should, on balance, remain low by historical yardsticks and would not derail the global economy from its current growth path. I still believe this to be true.
But I also do not wish to downplay the risks of greater inflationary threats amid monetary policy normalisation and reverse quantitative easing.
For instance, a 3% interest rate may be low by most yardsticks, especially for those of you who remember how high rates could go historically. But coming from a 2% base, that will still be a 50% increase in interest expenses. It could spell trouble for highly indebted companies (particularly those that have invested foolishly with cheap borrowings) as well as households.
That is why it is crucial for each company to be evaluated on its own merit — the strength of balance sheet, business model and sustainability of margins.
Growing uncertainties mean increased volatility. We may yet see bigger up-and-down days for stock prices. But it is no reason to panic or abandon your investing strategy.
As I have often said, investing is a long-term endeavour and we should focus on the business rather than day-to-day share price gyrations.
My basket of stocks performed well against the backdrop of weaker global markets. Total portfolio value rose 1.1% for the week, bucking the 0.1% decline in the benchmark index. This boosted total returns since inception to 7.5%.
I kept my Global Portfolio unchanged. This portfolio continues to outperform the MSCI Global index, which is up by just 0.9% over the same period.
Tong Kooi Ong is chairman of The Edge Media Group, which owns The Edge Singapore
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