The unexpected Conservative election victory has removed a lot of the uncertainty which overhung markets and they have breathed a sigh of relief. Not that all is rosy in the garden. The budget deficit is still huge, though we now have a Government dedicated to reducing it, while the current account deficit also needs to be reduced and productivity improved. We will certainly now be getting a referendum on EU membership, possibly as early as next year. The new Government will probably try to reduce the budget deficit sharply early in its term, mainly by cutting State spending, and it will want to offset this fiscal tightening by continuing with a loose monetary policy. If so, interest rates will remain low, which will support financial and property markets. The economic outlook is sound enough. True, growth in Q1 was a somewhat disappointing 0.3%, slightly less than the Eurozone achieved, and the full year projection has been lowered to 2.5%. With real incomes now growing by 2.3%, the full benefit of lower oil prices still to be felt and a recovering Eurozone likely to help exports, the economic outlook is fair. The April PMI for services was 59.5%, the highest for several years.
There is some uncertainty about the outlook for the US. Q1 saw virtually no growth, but this was probably due largely to the appalling weather over the Eastern half of the country and strikes in West Coast ports. Although retail sales are flat, incomes are rising by 3.8% and the weakening dollar should help exports, which had been suffering when the dollar was strong in Q1. The S&P 500 index has been hitting new highs and we believe the economy will bounce back over the rest of the year.
The Eurozone outlook is at last improving. True, bonds had a big shake out – the 10-year bund yield shot up from zero to 0.6%, but this looks like a correction from an absurdly over-priced level. Anyway Eurozone notched up growth of 0.4% in Q1. The ECB is pumping 60 billion euros a month into the system, consumers are spending again and business sentiment is strong, as are the main equity markets. So we expect the recovery to continue. Greece remains a headache, but there are some indications that the EU authorities may be the first to blink for political reasons.
Selling on 16 times historic earnings the UK stock market is no longer cheap, but with earnings growing steadily and the 10-year gilt yielding just over 2%, the market should make further progress. Many stocks and sectors continue to offer good growth. The FTSE 250 index, comprising mainly domestically-orientated mid-cap stocks, is powering ahead.