Richard Stone, Chief Executive of The Share Centre, predicts that the UK economy will perform better than many anticipate; that political change in Europe will be limited; and that Chinese trade will be impacted by worsening relations with the US.
"Like the wise men or the French hens, good things come in threes and so I've put together three predictions for 2017 and how investors might react to those:
1. The first interest rate rise in the UK for nearly 10 years
"I believe the UK economy will continue to perform more strongly than anticipated. Unemployment remains low and employment is at near record levels. The boost from Sterling's devaluation will continue to feed through – particularly for exporters to the EU who still have unfettered access to the single market but with substantially lower pricing in Euro terms. Inflation will rise, in part as a function of the impact of weaker Sterling, but also as a result of the relatively tight labour market. Without substantial changes in productivity this will likely start to feed through into higher wages.
"The Bank of England's stance already seems to have shifted from looking at potential further cuts to the next move being upwards – the issue is just one of timing. As the year progresses with continued high employment, increased clarity over the Brexit negotiations, inflation above target, wages rising and increasing US base rates putting Sterling under further pressure, this may well be the year when the turn in the interest rate cycle takes effect – even if that first rise is just modest at 0.25%."
2. No political surprises in Europe – but…
"2016 was the year of the political surprise, from Brexit to Trump and even further afield the surprise resignation of New Zealand's Prime Minister, John Key. The big question is whether 2017 will follow suit. I don't believe it will, particularly in Europe which is currently in the spotlight given the flurry of elections which will take place during 2017.
"The level of disaffection in Europe is just as strong as it is elsewhere in the world, but the political and voting systems are very different. This means that those expressions of discontent are less likely to have the same success as they did in the binary choices that were presented by the Brexit and US Presidential Election votes. In particular the coalition nature of politics in the Netherlands and Germany, along with the run-off process for the French Presidential election, mean that although extremist politicians may make advances their ability to gain power is limited – so I would not expect any great surprises.
"There is though a 'but', and it is potentially a positive 'but' for the UK. All the more extreme parties in Europe likely to make ground in the forthcoming elections have restrictions on the freedom of movement of people at the top of their agenda. The new governments which form after those elections, even under a re-elected Chancellor Merkel with a different balance to any coalition, will have to take account of the feelings expressed by increased numbers of voters supporting such sentiments. It may well be that the current view of access to the free market and freedom of movement of people, may not be quite so inextricably bound together after those elections as they are today. This could give the UK greater scope for negotiating a post Brexit deal which meets the currently competing aims of controlling immigration from the EU and allowing access to the Single Market."
3. Trump and China
"January will see the inauguration of President Donald Trump and we will then start to see how his policy pronouncements play out. In the US the power of the President is constrained by the checks and balances inherent in the system, particularly in Congress. However, the President still has significant sway on foreign policy and trade.
"Relations with China – if the current mood music is to be believed – may become more difficult. This in turn could impact trade. Conversely relations with Russia may soften which might alleviate some of the political tensions currently on the global stage.
"The US economy is building a reasonable recovery and with looser government spending (based on President-elect Trump's commitments to boost infrastructure and other spending projects) along with lower corporate tax rates which may lead to the repatriation of profits and cashflow back to the US, should all help speed that recovery. This will likely see US interest rates continue to rise through 2017.
"Conversely China is seeing slower growth (albeit faster than anywhere else globally). There are also concerns over the level of debt and the soundness of some of the financial sector. This could lead the authorities to consider a further devaluation of the Renminbi as was seen in August 2015 in attempts to stimulate growth."
Overall conclusions for investors:
"We at The Share Centre remain positive on the outlook for the global economy in 2017 believing it will continue to grow, albeit at a continued relatively sluggish rate. Having weathered the storms of political events in 2016 we do not see the same potential for political surprises in 2017. We believe the UK economy will continue to perform strongly to the point that interest rates may see their first rise in nearly 10 years. US interest rates will also continue to rise as the economy continues its recovery and responds to the higher spending and lower tax regime promised by President-elect Trump. Events in Europe may result in a more accommodating backdrop for the UK Government in its Brexit negotiations.
"The positive economic news should be good for equity valuations, and may be further boosted by increased merger and acquisition activity as UK companies appear cheaper to foreign buyers and US companies repatriate profits and cash which can fund such activities. However, increases in interest rates may act as a dampener on equity price gains.
"The potential fly in the ointment is China and how the authorities there act to stimulate growth. A devaluation of the Renminbi would likely spook markets as it did in August 2015. The markets will also likely be volatile if opinion polls in the EU show larger than expected gains for the anti-establishment parties.
"For investors, the turn in the interest rate cycle means that bonds may deliver capital losses and again emphasises the attractiveness of equities (or collectives that themselves invest in equities). Increasing inflation would also be a positive for equities and for commodities such as gold. Those sectors and companies likely to benefit from increased government spending on infrastructure and from increased M&A activity may be best placed for delivering returns for investors.
"Two final observations; first, the need for a transformational shift in productivity in the UK as we now lag behind most other developed economies, points to an opportunity for technology companies and investment in those companies. Technology will be the facilitator of that increase in productivity. Second, investors looking for yield should be diligent in their research as many companies have been paying out dividends at a rate ahead of the profits and free cashflows they have been generating. This is unsustainable for any prolonged period of time and may result in dividend cuts if profits do not increase to support those dividends. The FTSE 100 companies with substantial overseas earnings that now translate into more Pounds may have been given a gift in this respect by the weakness of Sterling – others may not be so fortunate and investors seeking dividend income therefore need to ensure they are discerning.
"Overall 2017 promises more ups and downs, although perhaps not quite so many surprises as 2016. Investors should remain cool-headed and long term in their focus. Investing in good quality companies with sustainable profits and dividend flows, or in companies with strong, proven prospects of success in new technologies or markets will always serve investors well over the long term when compared to other asset classes."