In February, Warren Buffett published his annual letter to Berkshire Hathaway shareholders. The key message remained his continued confidence in the American economy as he toasted “the American tailwind.”
And what a tailwind it has been, because the US has consistently exceeded expectations. A year ago, the world expected a recession that never happened, but the March jobs report showed an additional 303,000 jobs were created, far exceeding expectations. The increase in interest rates is intended to reduce people's ability to spend by driving up borrowing costs, but the U.S. consumer proved resilient. In March, retail sales were again underwhelming and growth expectations were raised even further. The US dollar is strengthened and Buffett's belief in American exceptionalism appears to be well founded.
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Stronger growth has consequences. Concerns that a recession could loom in 2024 have been coupled with hopes that central banks could cut interest rates and give borrowers some respite. This would drive up valuations in the stock market as yields available elsewhere were comparatively lower. With each improvement in growth, traders scaled back their bets on rate cuts, and US inflation accelerated as the quarter progressed – this may just be an obstacle in the way of a rate cut, but we will be watching the data closely.
Many assumed that higher interest rates would weigh most heavily on the valuations of the biggest growth stocks. These include the so-called “Magnificent Seven” of technology stocks that dominated the headlines in 2023. But as inflation and bond yields rose, shares of many smaller companies struggled. While the profitability of the biggest tech companies has allowed them to hoard enormous amounts of cash, smaller companies are more prone to taking on debt, and higher borrowing costs continue to weigh them down. We shouldn't rule out the possibility that these seven leading growth companies will get even greater.
Optimism has also returned to the UK after emerging from a shallow recession last year. Further positive surprises appear possible and wage growth remains strong. Elsewhere, China's economy, mired in real estate debt and at risk of deflation, may have turned the corner toward stronger growth, while India continues to make strong progress.
Markets have a very short memory when it comes to interest rates, and nervous traders eager for rate cuts should be careful what they wish for, especially if rates are being cut to counter weak growth. In our opinion, strong growth should be celebrated.
The market reaction to the October 7 attacks in Israel appeared to be muted, with oil prices well below levels following Russia's invasion of Ukraine, although the recent escalation between Iran and Israel means we are not ruling out a scenario in which fear of further disruption leads to an oil rally. In such a scenario, central banks would have the unenviable task of containing resurgent oil-related inflation. Higher interest rates may prove ineffective in curbing spending: How many consumers have the luxury of paying their mortgage or putting gas in their car?
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This is a groundbreaking year for democracy worldwide. In the USA, Donald Trump is leading the polls in key states, while in Great Britain a change of government appears likely, although its nature remains unclear. The politics of the current opposition are far less radical than in the recent elections. However, the impact on individual finances requires further discussion.
Our goal is to manage our clients' capital diligently, and many of the companies in which we invest remain stable despite political changes, market cycles and conflicts. This year should be a year of normalization, even if the speed of the news would have us believe it. As always, our preferred position is to remain invested for the long term.
Alan Colquhoun is a director at Julius Baer International.
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