HUB EXCLUSIVES PANEL DISCUSSION – ARE INVESTORS MISSING THE VULNERABILITIES IN THE US ECONOMY?
Panel discussion, hosted by Cherry Reynard, with:
Anjli Shah, Investment Director, abrdn
Hugh Grieves, Fund Manager, Premier Miton Investors
Joseph Knight, Investment Director, Ninety One
The US economy has continued to defy expectations. Rising interest rates have made little dent in the country’s GDP trajectory, with a buoyant jobs market supporting consumer spending. However, are investors overlooking the vulnerabilities in the US economy, from the country’s high debt to a potentially divisive election?
There had been fears that the US economy would slide under the weight of higher interest rates, but Hugh Grieves, manager on the Premier Miton US Opportunities fund, says it has shown significant resilience across the key areas of consumption, investment and government spending.
He adds: “It was assumed that as the Federal Reserve tightened the thumb screws, unemployment would start rising. That hasn’t been the case. Unemployment has barely shifted, and wage growth has been strong. As a US consumer, jobs are plentiful and wages are rising. Consumers keep spending and that has been turbo-charging the US economy.”
However, the side-effect of higher growth has been to change assumptions around interest rates. In December, markets were expecting six rate cuts in 2024, says Joseph Knight, portfolio specialist at Ninety One. This has been revised down to three, and even this is now looking optimistic: “Growth is now dictating the potential future path of interest rates.”
The assumption is now that there will be a soft, or no, landing. Knight believes that markets may have gone too far in pricing out a more difficult scenario. He says: “There could be a lagging impact from this tightening cycle and the rising cost of capital. Debt heavy businesses have maturity walls approaching, and will need to refinance. That could impact earnings and lead to job cuts.”
Inflation worries
There remain some risks around inflation. Grieves says this is his biggest fear in the year ahead: “There may be concerns that it isn’t going to come down as quickly as expected, but I’m not sure we will ever see 2% inflation again. We had it prior to the pandemic, but we live in a different world now. It may be not just that inflation doesn’t come down and we don’t get rate cuts, but there is a risk that inflation starts going back up. That’s not baked into anyone’s forecasts right now.
“When we look at, for example, commodity markets – copper, gold or crude oil - prices are rising rather than falling. Combined with a tight labour market, it is plausible that there will not be rate cuts, but there may be rate rises. That would really ignite a debate.”
The other area to watch is the US national debt. Grieves says that running a high deficit at a time when unemployment is really, really low is counterintuitive, but, he adds, “the economy is also growing at around 6%, so the debt to GDP ratio is actually flat. For the time being, the bond market is prepared to finance it.”
“The question is what happens if the bond market doesn’t finance it or demands a higher price to finance it. There is a scenario where growth slows and people start to worry that the deficit will go up. This could bring the bond vigilantes into the market. For now, as long as the economy remains in decent shape, all should be fine, but it’s a risk that needs to be monitored”.
For the time being, the balance of investor opinion is still firmly on the side of rate cuts. Anjli Shah, investment director at Abrdn, says: “We’re confident that we’ll see lower interest rates by the end of the year.” She believes this could be good for smaller and medium sized companies: “Historic data shows that small and medium-sized companies tend to outperform after the first rate cut and go on to outperform large caps over the next three, six and 12 months.”
Election jitters
Finally, there is the election. It looks like being an uncomfortable choice between two elderly candidates that no-one is particularly enthusiastic about. If Trump wins, stock markets may be more volatile because his agenda is less clear, but Grieves doesn’t think it’s going to be a serious issue for domestic companies.
Knight agrees that it may not matter who wins the election. “We try not to get drawn into the debate. 2023 was a lesson in this: we saw a banking crisis, tension in the Middle East, a changing rate environment, yet stocks markets still rose.
“Over the last ten years, the reason for the outperformance of the US market has been stronger profits growth. That’s happened across two different election campaigns, with two different parties in power. Moving forward, there might be some short-term volatility, but ultimately the dominant companies with all-weather business models should continue to perform well in this uncertain environment.”
