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Expecting to be surprised


As recently as May 2019, forecasts for the global economy were broadly positive. When the Bank of England published its May inflation report, it noted expectations that economic growth would soon stabilise before recovering towards its “potential” rate by the middle of the year.


For explanations of the investment terms used throughout this article.

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Since then, the news flow for investors has taken a turn for the worse. Trade tensions between the world’s two largest economies, China and the US, business confidence and investor sentiment have all deteriorated.

The Bank of America Merrill Lynch fund manager survey in early June 2019 showed that fund managers were more worried about the outlook for the global economy than at any time since the financial crisis of 2008. Indeed, the upcoming “season” of company results in the US is likely to show profits falling year on year, representing the first “earnings recession” since 2016, according to the Economist.

Markets initially responded to this gloomier outlook by anticipating supportive policies from the world’s central banks, including cuts to interest rates.

In light of expectations of lower interest rates, bond prices rose sharply during May and June.

Global stockmarkets also rose sharply in June, recovering from weakness in May. The S&P 500 index of the largest listed US companies’ shares rallied by almost 10% between early June and the middle of July 2019, bringing total returns from the index to over 20% from 1 January to 
18 July 2019. UK shares have not risen as strongly, but the FTSE 100 index was still up over 10% over this period. Please note, past performance is not a guide to future performance.

Ascending share prices this year have confused many commentators since they have continued in spite of downgrades to corporate profit forecasts. In the UK, the outlook is particularly complicated by the uncertainties surrounding Brexit, with a change of prime minister heralding a greater likelihood of leaving the European Union without an agreement.

Mark Carney, the governor of the Bank of England, articulated concerns that UK asset prices and the value of sterling have “become increasingly inconsistent with the smooth Brexit assumption” that underpins the Bank’s projections.

It is clear that both macroeconomic and political forecasts are constantly changing. Indeed, there is a surprisingly weak relationship over the short-term between financial markets and news flow.

But I believe there is one clear message from all the chaos and confusion. When investor sentiment is very poor, as in the UK today, there is more scope for positive surprises, and vice versa.

The views expressed by the author should not be taken as a recommendation, advice or forecast.