Global Equity Investor insight | July 2023

July 07, 2023
Jeremy Richardson 80 x 80.jpg
Jeremy Richardson

Monthly update with Jeremy Richardson

Is the rate of change decelerating? Jeremy Richardson discusses investors' continuing enthusiasm for artificial intelligence related investment cases, some signs of policy change from China, and the continuing positive trajectory from earnings estimates across the broader market.

 

Jeremy Richardson

Hello. This is Jeremy Richardson from the RBC Global Equity team here with another update. I just wanted to share with you a few thoughts about what we've been seeing in equity markets over the last several weeks. It feels as though we've been through something a bit like a mini cycle all by itself.

There’s three things I'd like to share with you about that. The first of which is that coming into this period, it feels as though we had quite defensive positioning from a lot of investors who I think were probably worried about the outlook for rising interest rates, curbing economic activity, potentially leading to recession, and creating a lot of uncertainty as to the profit outlook for a number of companies. And so that's led to sort of, as I say, quite defensive positioning within a lot of portfolios, and created a set of market conditions which is ripe for what many investors call the pain trade, which is where enough investors think they believe in one particular view of the future, and when that view of the future gets challenged, it can create a sea change within markets as investors try and avoid being on the wrong side of the argument. And that's the second thing that seems to have happened which is that underlying, we have had a few small items of more positive news which has challenged that more sort of defensive positioning.

So those pieces of positive news that I think have been three-fold. The first of which is continuing enthusiasm for artificial intelligence related investment cases, so what we might call the A.I. trade. It seems to have been a clear follow through from what we saw last month with some particularly strong results from a number of the key players in that segment of the market, and those investment cases continue to attract many supporters it looks like in the market more generally.

The second piece of good news is that some signs of policy change from China, which lowered its banking reserve ratio by ten basis points. A little bit of that monetary easing there from China might not sound like a lot, ten basis points, but going from not very much to something is a positive incremental change.

And then finally, and I think this is probably just worth noting, is that we are continuing to see positive trajectory from earnings estimates across the broader market. Now, those earnings estimates had been cut at the end of 2022, and we saw in the first quarter of this calendar year that many companies were able to meet or exceed those lowered earnings estimates. Perhaps, now looking at it, feels as though it may have been created a sort of an earnings estimate floor, because we continue to see positive momentum in terms of earnings estimates. I don't want to overstate that, but the trajectory is sort of improving rather than deteriorating, and that creates a challenge for that sort of more bearish positioning, hence sort of providing a catalyst maybe for the market rotation that we've been seeing over the last four or five weeks.

And now the question is - how long does this last and what the outlook from here looks like? Now, I don't have a crystal ball and it's a mug's game trying to make short term predictions on the movements of the equity market. I would just observe though that, you know, to the extent that there are technical factors at play driven by repositioning within portfolios, those tend to subside once enough people have made their trades. So, trying to sort of be a little bit more fundamental and look a little bit more longer term - actually the mechanics, I suppose you might call it, continue to sort of move in a more favorable direction. You may remember conversations that we've had previously about how the range of possible outcomes at the beginning of this calendar year felt very, very broad, you know a lot of uncertainty as to the outlook for inflation and the level of interest rates that would be necessary in order to curb that.

Well, as time goes by, it feels as though the information that we're getting in terms of inflation, and also the market's expectation and interest rates, is beginning to coalesce around a stronger consensus that inflation is peaking, or may already have peaked, commodity prices, a number of inputs going into goods and services baskets are beginning now to fall, providing an indication perhaps of sort of more improving momentum. And the market's view about the outlook for interest rates is also coalescing around, it may be higher for longer, but certainly is no longer baked into expectations that interest rates need to increase dramatically from here.

So, it feels as if the rate of change is decelerating. And for fundamentally minded investors like ourselves, that is actually quite a supportive dynamic. Why? Because if you have a slower rate of change in some of the macroeconomic conversations, it should allow investors attention to once again focus back onto company fundamentals. And as I was saying earlier, a lot of those fundamentals are actually pretty good as you can get a sense from those improving earnings estimates.

I hope that's been of interest and I look forward to catching up with you again soon.

 

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