David Coombs: A quick look at...the US, Europe and China

Rathbones’ head of multi-asset investments David Coombs on his outlook for the US, Europe and China.

Markets are currently stooped in political mire. From the US, to Europe and, of course, in China, investors are losing patience with the bureaucrats. It can be hard to fathom who is David and who is Goliath in this scenario, but for those of you old enough to remember Soros and the ERM, we can only hope…

So how does this impact our strategy when markets, already negotiating such exceptional times, are underpinned by such political wrangling? Well, discounting the future is certainly harder than before, particularly as theory becomes increasingly obsolete.

US wrangling

In the US, the underbelly of Congress was laid bare when President Obama attempted to pass his latest stimulus package (the American Jobs Act), and the relatively high profile of the Tea Party has confused the landscape even further.

It is unsurprising that the US Federal Reserve is now dictating policy while the politicians dither, but it too has limited levers it can pull. All things considered, QE3 is now more likely than ever, something that might be a positive for bond markets and higher yielding stocks.

If the yield on government bonds remains artificially suppressed, yields on corporate bonds and equities should be much sought after. In our Rathbone Strategic Growth Portfolio, we have played this very idea through the Legg Mason Western Asset US Core Plus Bond fund.

Eurozone concerns

*This article was written ahead of the deal agreed by European leaders to ease the region's debt crisis*

Turning to Europe, and the problems are already extremely well documented. What is apparent, however, is that the only real solution to the mess is one eurobond, signed by the 17 member states, and underwritten by those economies.

In our view, the eurozone would benefit from an entity that could establish a uniform fiscal union. Currently, investors are fearful that Italy and Spain will be unable to refinance their debts, something that will overshadow European bonds for a while yet. It is quite possible the banks will have to recapitalise, making senior bank bonds preferable to equities so long as they stand behind senior debt – they have so far.

We have no exposure to European (ex-Germany) equities, but we will be looking to increase our exposure to European bond markets, including financials, as they have become attractive at these distressed levels.

Chinese property bubble

Finally to China. Around 12 months ago, we expressed our grave concerns in relation to the bubble forming in the property markets, particularly in China’s first tier cities. Investment property has not been let out in the main, so there has been no rental yield, meaning there has been nothing tangible on which to base a valuation. Scanning the papers and having heard the chatter, this has now become a consensus fear.

Despite this, however, we feel confident China will avoid a hard landing, as the Chinese government has in the past proved adept at manoeuvring the economy out of sticky spots and engineering a soft landing. Furthermore, this might actually be good news for the A-shares market, as those investors who inflated the property bubble might now look to reallocate their assets into equities.

With no or (some would argue) a nascent bond market, there are few other options. We are by no means suggesting the A-shares market has necessarily improved in terms of quality or liquidity, and we will not be adding at this stage. We have, however, increased our overall exposure to emerging market equity. We have also taken profits in our safe haven exposures, such as gold, which are looking a little overbought.