A World of Sharp Contrasts
Gary Dugan, Chadi Farah, Bill O'Neill
The Global CIO Office
While the US equity market continues to push higher, the economic backdrop remains mixed. Data released last week showed that the Conference Board Consumer Confidence Index dropped to 98.7 in September, with the “present situation” sub-index declining sharply, indicating a potential economic downturn. Historical evidence suggests that a 20% decline in the current situation sub-index often precedes a recession. The ratio of consumers finding it difficult to get a job has worsened, predicting a rise in unemployment to 5.3% and signalling labour market pressure.
Given the weaker-than-expected consumer confidence number, this week’s US employment report becomes even more important. Some economists are of the view that last week’s weaker consumer confidence data implies that the employment report due out this week could be worse than expected. A weak labour market would reinforce the minority view that the Fed could cut interest rate by 50bps (again) at its next meeting.
Chart 1: US Conference Board Current Confidence Expectations
Index
Source: Bloomberg
China has been front and centre of the past week’s global equity market action. It will suffice to say that the Chinese authorities are doing everything that they said they wouldn’t do. The helicopter money, and the support to the real estate sector, for instance, reverses their previous plans of fiscal discipline and real estate sector reset. But the leadership has certainly caved in to economic and, probably, political pressures and appears determined to generate the 5% annualised GDP growth that it is committed to. To be honest, China is only following the United States in spending money well beyond its means. The current P/E multiple of the CSI 300 is 14.9x, whereas the S&P 500’s is 25.6x. Now that the Chinese authorities want to create growth it’s probably best for the moment not to vote against further gains in the Chinese equity market.
Chart 2: China’s CSI 300 Index Performance Compared with the S&P500 Index
Source: Bloomberg
Global investors continue to hope for the outperformance of the European equity markets. Investors hope that EU governments give up on their commitment to fiscal constraints and spend money supporting their economy, akin to what we are seeing in China. However, if no EU government is prepared to expand government spending, all that the investors can hope for is an acceleration of ECB easing. A good case in point is the situation in France where fiscal deficit at 5.5% of GDP is seriously limiting the new administration’s efforts to generate growth. Most of the budgetary dialogue concerns which segment of the economy will face spending cuts form the government, or, perhaps, burdened with higher taxes. There’s hardly a country of any notable size in Europe that has scope to support growth through spending. The only safety valve for the economy, therefore, is ECB rate cuts, but the ECB remains reluctant to live up to market expectations.
Valuation could be the main factor holding the European markets back from further underperformance. As the chart below shows, the valuation gap between the US and Europe has widened over the past decade. It was only until late 2014 that the valuation of the two markets was at par. The ever-widening valuation gap since must have a limit. Still, as we have seen in the case of China versus the United States, the gap can only close when there is some sort of a catalyst in the form of, say, a meaningful macroeconomic stimulus. Also, the recent government support for the Chinese economic growth will help European exports, particularly Germany.
Chart 3: P/E Differential Between US Equity Market and Europe ex-UK Continues to Widen
Source: Bloomberg
India on its own track
On a trip around India last week, we found a palpable change in pace and confidence of entrepreneurs. It was an excellent week to be reminded of the improvement in the quality of the economy. In an update to the Global Innovation Index published last week by Switzerland-based World Intellectual Property Organisation, India improved to the 39th rank out of 132 countries, up from 46th in 2021. We would point to one short anecdote on how India is creating a very different commercial infrastructure for its country than the West. For India, the introduction of the Aadhar Card, which bears a unique 12-digit identification number and is somewhat similar to US’ Social Security Number, put every citizen of India on the map. It created universal inclusion – from a farmer to a multi-billionaire, they all carry an Aadhar Card. India thus has taken the theme of democratisation to a new level, providing a series of platforms as enablers of this inclusion and entrepreneurship. The latest example in this series is the not-for-profit organisation, Open Network for Digital Commerce (ONDC).
To quote from the ONDC website, “In India, more than 12 million sellers earn their livelihood by selling or reselling products and services. However, only 15,000 sellers (0.125% of the total) have enabled e-commerce. E‑retail has been out of reach for the majority of sellers, especially from small towns and rural areas. ONDC recognises the unique opportunity to increase e‑retail penetration from the existing 4.3% to its maximum potential in India.”
So, whereas the United States and China have allowed private sector companies such as Amazon and Alibaba to develop/exploit e-commerce, in India, the government is creating a not-for-profit e-commerce platform that becomes a utility open to all. The platform offers everything a buyer or seller needs, including financial services to support businesses and courier rates at large company discounted prices. India continues to develop a backbone for its economy with many new positive angles that are indeed ‘made in India’ as true enablers of the country’s entrepreneurial spirit.
Although the Indian equity market may be expensive at this time, the country’s continued investment in its long-term growth justifies a full valuation.
