May has seen the UK continue its passage out of lockdown with the reopening of indoor hospitality and the return of fans to sports stadiums. The resurgence in economic activity has supported a rise in UK shares and contributed to them being the top performing asset class over the past month, as well as since the start of the year.
With the UK benefitting so strongly from the reopening of the economy it is hardly surprising that the Indian variant of covid is proving an area of concern. The threat to investment markets is that if our current vaccine line-up proves ineffective against the new variant it may impact the further lifting of restrictions. However, the rate of vaccination remains high, and early reports suggest the current set of vaccines provide enough protection against the Indian variant to still be effective. Until this changes, the UK will continue its path to fully lift restrictions allowing the economy to further recover.
Inflation is coming
Inflation concerns have been simmering since late last year as generous expansionary fiscal and monetary policy combined with pent-up consumer demand has led to rising inflation expectations. The numbers are beginning to reflect these forecasts. As an example, the price of timber has risen by more than 230% since the onset of the pandemic with prices trading at all time highs. The reason for these rises is classic supply and demand. Lockdown restrictions closed lumber mills and, with people seeking home improvements rather than holidays, prices have risen. This rise is not isolated to timber as other commodity prices are rising due to an increase in consumer demand.
Inflation is a worry for markets because it means central banks may be forced to raise interest rates and curb expansionary policy. These policies have been in place to reduce the economic impact of lockdown restrictions however they have also been a major reason for the pace of recovery in investment markets. If central banks are forced to take action to combat inflation and these supportive conditions are removed, it potentially becomes more difficult for investors to justify the lofty valuations placed on many companies and investors are nervous this could lead to readjustments downwards.
Global markets experienced a small sell-off at the start of May as data in the US pointed to a rise in inflation. As investors digested the news, equity markets globally fell around 3%.
Like in the early part of the year when inflation rocked markets, the initial move appeared an overreaction, with markets largely stabilising following the initial sell-off. The inflation conundrum is difficult to forecast. As economies continue to reopen across the world, we are likely to see higher inflation simply because the numbers recorded last year were so low. The question is whether this inflation will be transitory as economies reopen and economic activity resumes, or whether it will be here to stay. The former is what markets are banking on, the latter may force central banks into action.
Bitcoin bubble burst?
The speculative rise in cryptocurrencies has taken a sharp turn this month following a sustained rise across the market over the last year. The largest cryptocurrency, Bitcoin, has seen its price rise from around $10,000 in September 2020 to being worth over $64,000 briefly in April 2021. The news that multiple central banks will not accept crypto assets as payment in their countries, and Elon Musk tweeting to highlight the environmental impact of crypto mining has halted much of the momentum that was driving the rise. Numerous crypto currencies have lost around 50% of their value as markets fell back on the news although crypto assets remain at an elevated level compared to this time last year.
The hard reality at present for the young asset class is that investors cannot accurately gauge its intrinsic value. With looming threats of regulation, the ability of celebrities to manipulate the market seemingly at whim, and the current lack of market adoption, we believe this is an area for speculators rather than investors. Holders of cryptocurrency might argue that the fiat currencies we all use (pounds, dollars, euros) have no physical worth. But for the time being the simple matter is you can go to a pub and buy a drink with a £10 note, try turning up at your local with bitcoin.
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