The Week In Hindsight, 30 May 2014

US and UK markets closed higher this week with North American indices reaching record peaks once again. This was while the FTSE 100, although posting a positive performance, appeared to lose momentum toward the closing stages of the week.

The weakness in the FTSE during the final session came shortly after the release of initial estimates for Chinese economic numbers which are due next week, and was mostly the result of heavy selling in the mining sector.

Over on the other side of the Atlantic, the Dow Jones reached record territory three times over the past five days, while the S&P 500 set new highs for four out of the last five sessions.  

The gains in equity indices for the week were uninterrupted by Thursday’s downward revision to US Q1 growth figures, which indicated that the economy may have contracted throughout the first three months of the year as opposed to merely slowing down as previous announcements had suggested.  

Nevertheless, and overall; the outlook for the US economy remains largely unchanged. The poorer Q1 figures are, at present, seen as the result of the polar vortex and a consequent slowdown in general economic activity. This is while more recent incoming data continues to point toward a rebound, with both consumer incomes and inflation beginning to show signs that they may be trending toward the upside.

In addition to this, unemployment numbers have made a resounding turn toward the right side of the red and black line, while durable goods orders have also staged an impressive comeback since the days of the polar vortex as retailers have rushed to replenish warehouses and storerooms in anticipation of better days to come.  

Following a quiet spell in the economic calendar for the UK, the next round of PMI surveys for construction, manufacturing and services are due for release from Monday through to Wednesday next week. In these figures, we look to see further confirmation that the cooling of conditions which took place during Q1 has now played out. Should this arrive to be the case then it will be likely to increase the volume of the current conversation surrounding interest rates.

Moving further into the week, the ECB governing council is widely expected to announce a further rate cut at Thursday’s meeting, one which could potentially take nominal rates into negative territory. In addition to the reduction in rates, further stimulus measures in tandem cannot be ruled out.

This will ultimately prove positive for European stocks to one degree or another, while current exchange rate dynamics could also leave the FTSE looking like an attractive proposition to yield hungry investors.

In short, the outlook for the UK and the US economies remains bright, with no events in the foreseeable pipeline that suggest any significant change to this scenario. Despite the economic outlook, there are risks to markets which deserve recognition. Elevated levels of indices, high valuations and merely modest earnings growth all have the potential to become a cause for concern.

This is particularly the case when considering the uncertainties that continue to surround the Chinese economy, the fact that the recent de-escalation of the crisis in Ukraine is relatively young, while geopolitical tensions continue to run high elsewhere in the world.

When taking into account the risks to investors which are present in the current environment and that despite these, volatility measures point toward the calmest conditions for 10 years; there are clearly grounds to suggest that the air of complacency across markets may be thickening.

As a result, while we continue to hold a positive view of the prospects for developed market growth over the remainder of the year, we are mindful of these risks moving into the weeks and months ahead.   

UK and US Indices (FTSE 100 – Red)

UK and US Indices May