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2016 Markets Review

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The start of 2016 saw global investors trying to come to terms with the falling oil price, resulting in an immediate sell-off in many risk assets. This has become synonymous with a weaker performance from energy sectors and oil producers, and had called into question the credit worthiness of many firms.

Therefore, as the price of Brent crude fell below $28 per barrel in January (2016), concerns quickly returned.

By mid-February most assets started to recover including the price of oil.

Just weeks before the UK’s Brexit referendum, the Federal Reserve (Fed) backed away from raising interest rates, bowing to pressure from markets that too much risk was on the horizon.

In June, the UK voted to exit the EU and markets worldwide reacted badly with the FTSE 100 falling dramatically. GBP also continued its decline and it was this that triggered a sharp recovery in UK shares, especially those whose earnings were in the $US – the FTSE 100 recovered.

Meanwhile, the British pound (GBP) was falling sharply as more investors woke up to the risk of Brexit, ahead of the UK’s referendum in the summer. GBP was suddenly one of the worst performing currencies over recent months as investors and economists considered the implications of an exit result.

In August, the Bank of England (BoE) cut interest rates to 0.25%, and restarted quantitative easing (QE) with £60 billion of new purchases of gilts and corporate debt. This caused a rally in Gilts. The decision to cut rates was predicated on the assumption UK GDP would start to fall; however, this did not happen and therefore the pessimism for the UK economy following the Brexit vote was not fulfilled.

The European Central Bank (ECB) had already announced an increase in its QE programme from €60 billion to €80 billion per month earlier in the year, but it added corporate debt to the mix of assets for the first time in the summer.
The Olympics, held in Rio, was a relative success for the host nation, but could not save the embattled President Rousseff. Her impeachment and removal from office at the end of August helped drive a rally in Brazilian assets as investors looked toward to the possibility of reform in a more stable political environment.

Theresa May criticized the BoE’s QE policy for worsening inequality in the country, which later triggered several attacks from her government towards the central bank. A better than expected outturn of economic data immediately after Brexit prompted complaints of politicised forecasts from the central bank. The pound tumbled further in response, but gilts yields sold off as an extension of QE became less likely.

It was becoming clear that central banks were running out of ideas and that the current spate of negative interest rates, which has led to a significant amount of global government debt offering negative yields, is not the answer to end the slow growth environment the world is now in. This was borne out by the Bank of Japan (BoJ) who had introduced negative interest rates earlier in the year in an attempt to halt the rise in the yen. This had failed but they declined to decrease rates further and instead targeted their 10-year government bond.

Donald Trump’s victory was not expected. His promise of tax cuts and fiscal stimulus caused global equity markets to adjust. The developed world markets went up and Emerging Markets went down. Bonds in general fell in capital terms as yields increased with economists predicting that the end of the 30-year bond bubble is drawing to a close.
In December, the FED raised US interest rates from 0.5% to 0.75% as inflation showed its head.

The year started with the increasing fear of deflation and ended with the prospect that inflation will increase for most global economies in 2017, with the UK seeing c. 2.5% to 3% by the summer because of the weakness of GBP. The BoE have said they will “look through” this rise and not raise interest rates as they predict it will fall back below their 2% target by the year end.

In summary, 2016 will be remembered for the disenfranchised voter gaining a voice and voting for a different mode of politics and economic view. The recent trend of globalization has been questioned, especially in the UK and US. The result of this is that political pragmatism will be the way forward for the next few years, decisions will be made for the benefit of the country making them rather than for spreading liberal democracy. For the UK, a hard Brexit is expected, which will probably mean that GBP remains weak against most major currencies. As mentioned previously UK GDP has held up well since Brexit and a weak currency should augur well for the near term. For the US, Trump, when passing legislation, will first ask what benefit is there for the US. This will be beneficial for developed markets as his main objective is repatriating jobs back to the US and countries such as the UK, Europe and Japan have similar wage costs but China and GEM countries do not.

Returning to the disenfranchised voter we await the result of the General Election in France in March. The favourite, Fillon has now only a 4-point lead over Le Pen in the polls – is there another election shock coming?!

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