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Macro matters

28 October 2015

Neil Woodford argues that the macroeconomic picture is always important for investors – and it’s not without worries.

For an investor choosing a tech company in 1999 or a bank in 2006, a half-sensible stock pick was enough to deliver stellar returns – or so it seemed until the dotcom crash of 2000 and the beginning of the global financial crisis in 2007.

Neil Woodford of Woodford Investment Management sold his tech stocks at the turn of the millennium and his bank stocks in 2003. His good timing is a reminder that how a company is run, or even how it performs relative to its peers, is only part of what determines its ultimate success.

“Every businessman in every walk of life will know that their company’s performance is not just a product of their own effort,” says Woodford. “It is also a product of the environment in which they are operating – whether it’s the domestic economy or the international one. A company’s destiny is not exclusively within its own control.”

By ignoring macro matters, Woodford argues, you ignore one of the most important drivers of earnings. You thereby undermine the process of valuing a business and its prospects. You may even end up with the wrong stocks in your portfolio.

At the moment, Woodford finds plenty to worry about in the big picture. Slowing Chinese growth, US monetary policy risk, and the danger that Britain might leave the EU are all concerns. But it is China and the US that dominate the view.

“China has been responsible for half of global growth since the crisis but is now running into a brick wall,” he says. “That is the new dynamic and it means growth globally is going to be much harder to come by. It will be hard for companies to grow.”

Woodford remains unconvinced that China will easily manage the transition from an economy based on export and infrastructure growth to one driven by consumption. Political constraints make a smooth transition far from easy, in Woodford’s view, while the investment-driven growth model has impacted banks heavily.

Unhealthy optimism

Yet despite these headwinds, Woodford finds the market increasingly optimistic about both global growth and corporate earnings. In fact, he finds that too many fund managers suffer from an unhealthy dose of optimism.

“Consensus views are institutionally way too optimistic all the time,” says Woodford. “Part of the reason, of course, is that we live in an industry that by its nature should be optimistic. But I would rather be realistic.”

One reason to question market optimism is the outlook for US monetary policy. Indeed, Woodford believes that market expectations of Federal Reserve policy are simply wrong.

“I think the next move in US interest rates, or the next move in US monetary policy, will be to ease, not to tighten,” he says.

Taking stock

Yet despite all his concerns, Woodford believes equities offer the greatest potential returns for medium- and long-term investors.

“When I look at fixed-interest markets, what I see are return-free risk assets,” he says. “When I look at property, particularly domestically, I see an asset market that is massively overvalued. If you think about the alternatives, there really is nothing in my mind that comes close to the attractiveness of equities – but I think you have to be very selective.”

In part, this reflects the more positive parts of Woodford’s macro view. In his view, structural headwinds to global growth are not likely to lift any time soon; but over the next three to five years technology and innovation will provide a shot in the arm.

“On a three- to five-year view, I think the world will start to be changed by a cycle of innovation, which is going to drive more productivity, more growth and better outcomes; especially for economies not overly-dependent on natural resources,” he says.

“People talk about social media, but I’m much more interested in technology that can change our lives in a profound and fundamental way – such as in energy consumption, climate change and human health. Those are the things that will be revolutionary for mankind, for standards of living, for the environment and ultimately for equities.”

 

Neil Woodford of Woodford Investment Management is the manager of the St. James’s Place UK High Income Unit Trust and the Income Distribution and UK Equity funds. The opinions expressed are those of Neil Woodford and are subject to market or economic changes. This material is not a recommendation, or intended to be relied upon as a forecast, research or advice. Full advice should be taken to evaluate the risks, consequences and suitability of any prospective fund or investment. The views are not necessarily shared by other investment managers or by St. James’s Place Wealth Management.

Please be aware that past performance is not indicative of future performance. The value of an investment with St. James’s Place may fall as well as rise. You may get back less than you invested. Returns on equities cannot be guaranteed.

Some of the products and investment structures documented within this article will not be available to our clients in Asia. For information on the funds that are available please get in touch.

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