JP’s Journal: Shifting plates

Political uncertainty is always present. But there seems to be a ratcheting up at present. In the US we await the implication of President Trump v2. Often the sequel is a let down but this one looks likely to match the original – in terms of impact.

In Europe we see turmoil in France, instability in Germany, political polarisation in the Netherlands and corruption probes in Spain. Elsewhere, Serbia, Georgia, Romania and Moldova are struggling to decide whether they want to move towards the euro zone or fall back into the orbit of Russia. The Middle East continues to see fighting, with the latest developments in Syria an indication that the status quo, attributable to the military influence of Russia and Iran, is under pressure.

In Europe we see turmoil in France, instability in Germany, political polarisation in the Netherlands and corruption probes in Spain.

Geopolitical risks tend to be overstated in markets – longer term economic factors tend to dominate in the end. But we are seeing a fragmentation of a world system that has served financial assets well over the post war period. At a macro level the challenge to US dominance by China and the instability arising from Russia’s influence in countries previously within the USSR are shifting old assumptions about the inevitable progress of liberal democracy.  Demographic trends play a part. In Europe there are fewer babies than required to stabilise populations. This is putting a strain of budgets but is also encouraging migration to fill the employment voids. Cultural change is also happening – both because of migration and a shift in generational attitudes. In Europe, societies appear to be more fractious; politically, the centre is under greater pressure than at any time in the last 70 years.

In the UK the Reform Party is now more popular than the Labour Party as the realities of government start to bite. The Chancellor, speaking to the CBI recently, sent out a message that business taxes were not to rise further. This lasted for a few days until the Prime Minister clarified that it would depend on circumstances. This was a sensible caveat at two levels. First, no one knows what is around the corner. Second, the economic outlook is not encouraging. The plan to turbocharge the economy through the building of 1.5m houses over five years is very ambitious but will be very hard to deliver, business sentiment is heading in the wrong direction, and debt is rising. In addition, the transition to net zero will impose upfront costs on both consumers and businesses and take a further toll on public finances. From a competitive viewpoint, it is imperative that the green energy revolution is both speedy and effective. Ed Miliband, Secretary of State for Energy Security and Net Zero, perhaps holds the fate of the government in his hands.

On the economic front, the US labour market report was mixed. Non-farm payrolls data was in line with  consensus – the rise reflecting a bounce-back from strike and  hurricane-affected October figures. The unemployment rate rose to 4.2% although pay growth was a bit stronger than the Fed would want to see. Overall, a rate cut this month still looks likely, especially as the household survey data continues to send a more downbeat. 

Treasury 10-year yields consolidated below 4.2%, 30bps below the mid-November high. In the UK the 10-year rate closed up on the week, at 4.3%, but still well below the levels seen four weeks ago. The political turmoil in France did not impact the yield premium over German bonds, although there is now a positive yield differential with Spain. Sterling investment grade credit spreads moved lower, now only marginally above the lows seen in November. High yield also saw spread compression, with the downward trend in place since early August being maintained.

There is a sense of flux – both at a geopolitical level and within countries. Some older certainties are being unwound and new equilibria are being established. Whether they turn out to be durable only time will tell. What is clear is that the retreat of the US from dominant political leadership, the rise of new economic powers, the impact of demographic and migration trends and the climate challenge create a daunting set of issues for economies, societies and markets to navigate. 

This is a financial promotion and is not investment advice. Past performance is not a guide to future performance. The value of investments and any income from them may go down as well as up and is not guaranteed. Investors may not get back the amount invested. Portfolio characteristics and holdings are subject to change without notice. The views expressed are those of the author at the date of publication unless otherwise indicated, which are subject to change, and is not investment advice.