2 October 2018
“What is happening today is reminiscent of what happened in the early 1980s when the Reagan administration pursued a similar fiscal policy of tax cuts and increased spending. Interest rates then increased faster than anticipated and the US dollar rose significantly, eventually leading Mexico to default on its borrowing. Nowadays, we have a much more highly-levered financial system and there are many more Mexicos out there...“
— Neil Woodford
Most major regional stock markets posted modest gains in September, recovering their poise following a late summer sell-off. Concerns about the health of emerging economies abated somewhat during the month, helped by a slightly weaker US dollar. We are not convinced this will last. Tighter global liquidity conditions, as reflected in the strength of the US dollar for much of this year, are already causing considerable pain for emerging markets and we believe the situation will worsen from here.
The current policy mix in the US, with Trump’s populist agenda playing out through tax cuts, dollar repatriation and the war on trade, coupled with progressively higher US interest rates from the Federal Reserve, suggest further dollar strength is likely. Indeed, with inflationary pressures building in the US, as evidenced in the chart below, there is an increasing risk that US interest rates could rise faster and further than is currently expected, which would represent an unwelcome surprise for global financial markets.
The Bigger picture
Further positive data on the UK economy this morning, with growth of 0.3% in July 2018 and a 3m growth rate of 0.6%. The UK economy is strengthening – it is now unequivocally growing faster than the Eurozone.— Woodford (@woodfordfunds) September 10, 2018
This @TheEconomist article highlights several things we’d agree with. There is widespread complacency about the global macroeconomic backdrop. To paraphrase Mark Twain, reports of the death of secular stagnation are greatly exaggerated https://t.co/TeVVLr3fIZ— Woodford (@woodfordfunds) September 14, 2018
"Nearly 4 decades after Reagan’s alleged supply-side revolution, déjà vu is in the air. It’s the scent of an approaching storm." Echoes of 1982 in current US policy but with more $ debt in the global financial system today the consequences could be greater https://t.co/xZQnVmkUhN— Woodford (@woodfordfunds) September 26, 2018
Inflationary pressures building in the US economy could prompt further interest rate hikes
Source: New York Federal Reserve, Bloomberg, Woodford
Key Company Events
Within the UK equity market, the twists and turns of the Brexit discussions continue to dominate sentiment. This is obviously a critical time in the negotiations with Europe but there are other global risks on the horizon which may be more impactful on financial markets in the near term. With inflationary pressures building in the US, the prospect of a stronger US dollar inflicting further pain in emerging markets and growth already slowing meaningfully in Europe and China, we believe global markets could be navigating through a much more challenging period in the months ahead. Against this backdrop, the UK’s economic situation looks relatively benign.
With a focus on unloved and undervalued domestic companies, which are already pricing in an overly bleak scenario for the UK’s economic future, we remain convinced we have an appropriate strategy for the challenges that lie ahead.