By Brean Horne of Citywire
Investor tension is rising as election season in Europe gets underway. Although the Netherlands recently rejected populist candidate Geert Wilders, Germany, France and potentially Italy are heading to the polls in upcoming months, sparking a fresh wave of unease and uncertainty. Despite this, though, there is reason for optimism and a positive long-term outlook, according to Mark Wharrier, portfolio manager of the UK BlackRock Income fund.
For Wharrier, the upcoming elections are a continuation of the increasing polarisation of politics. ‘The elections are nothing new,’ he says, ‘they are a continuation of a trend we’ve seen over the last few years with Brexit, Trump and changing regimes in Eastern Europe.’
Political uncertainty remains high in the UK as Brexit draws nearer – with article 50 due to be triggered at the end of March – and Wharrier sees volatility increasing as a result. ‘I think we’re going to see volatility over the next few quarters because the Brexit negotiation is a two year process with highs and lows.’ In terms of portfolio positioning, therefore, Wharrier believes that ‘rather than positioning for outcome (a) or (b) we’ve just got to be alert to that volatility and try to buy shares that are mispriced.’
Although the global economy has improved over the last 12 months, there are still short and long-term risks, prompting Wharrier to move more defensively for now. ‘In the short term we still see lots of risks whether its interest rates, foreign exchange or politics,’ says Wharrier. ‘Longer term risks lie in technology, demographics and the level of world debt. We’re really just trying to focus on companies that generate cash flow, are defensively positioned and have strong businesses.’
But despite sterling’s precipitous decline post Brexit – with the pound shedding 20% against the dollar – and returning inflation, Wharrier sees an opportunity. The valuation gap between European and US equities, in particular, has become rather extreme compared with its historical average. Bank of America Merrill Lynch recently reported that US stocks are at a 40-year high to Europe, with MSCI Europe index currently trading 14.7 times forward earnings compared to the MSCI USA index which trades at 17.8 times.
US reflation has also historically benefitted the global economy, but Wharrier says it could present some challenges to investors this time around. ‘Clearly there are some negatives as well when it comes to reflation in terms of border adjustment tax and unpicking trade agreements,’ he says. ‘So we may not see the same positive multiplier we’ve seen on previous cycles.’ He adds: ‘Construction companies and product distributors will benefit but they are pretty small in the context of the UK stock market.’
In line with BlackRock’s longer term outlook, Wharrier emphasises the need ‘to keep things simple.’
But despite looming risks this year, Wharrier maintains a positive outlook overall. ‘I am very optimistic for UK income because ultimately the companies we’re buying are strong and have good balance sheets as well as defendable market positions on equity.’ Fundamentally, he claims, ‘those are the companies that will generate real growth in dividends and income over time.’
This diversification is key going forward, especially when investment environments become more inflationary. ‘If you hold bonds, you will not benefit in an inflationary market. Equities on the other hand may enable you to hedge yourself against some of the inflationary pressures.’
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