Making predictions is always daunting – this year more than most. Nevertheless, we’re going to look beyond current uncertainties to identify trends that will influence the Capital Agenda in 2017. One easy prediction: it won’t be quiet. Beyond that, almost anything seems possible. Last year’s overturning of decades of consensus was truly extraordinary; but, we only saw glimpses of what might replace it. This is where 2017 gets interesting.
Of course, making precise predictions in the current maelstrom is like pinning jelly to a wall. But, we hope that by identifying the biggest themes in 2017, we can create an outline of a new capital landscape – or at least identify the chief risks and opportunities. The bottom line? If half of this holds, the world will look very different by 2018 and companies will need to show great agility – above and beyond what’s already needed in this fast moving, disrupted world.
We’ve ‘upcycled’ this from our 2016 list for obvious reasons. Where do we even start? There’s a new US regime that is, by any measure, unconventional. An uncertain BREXIT path. European elections. Rising geopolitical tensions. Plus that challenge to economic, political and social orthodoxies. And, if the start of 2017 is any indication, they’ll be even more that’s beyond our imagination.
Events set in train last year will generate real life actions, policies and consequences in 2017 – and there’s more to come. Forecasts will keep moving in light of changing circumstances, there are still underlying trends that will also transcend and influence events that we can look at here.
Derogative labels like “remoaners” and “deplorables” highlight the sharpening divide between those who feel that hope has returned and those think it has been all but extinguished. Sovereignty is increasingly the trump political card. At an individual and national level, barriers are going up. The post-war consensus on globalisation – and the benefits of making the world a more connected place – has eroded. Upcoming elections and negotiations will underline the divides in 2017
More physical and virtual borders present obvious challenges to trade and finance. Decades of regulation and infrastructure won’t disappear overnight – legislative change is a lengthy process. But the direction of travel is clear and companies need to think about contingencies in production and supply chains because the political and social climate can harden fast. Industrial relations also look more fractious in world lacking consensus. And it is harder to make forecasts without the old scripts. A BREXIT debate heckle, exclaiming: “That’s your bloody GDP. Not ours” encapsulates so much. If consumers don’t believe what they hear from experts and official sources, it’s much harder to predict behaviour.
By mid-2016, there were signals that global growth – whilst remaining below pre-crisis levels – was gaining more momentum. Rising confidence was underpinned by greater commitment to fiscal stimulus – most notably from the incoming US President – and the way economies rode out uncertainty in 2016. Not least in the UK, where unexpectedly high consumer spending sent post-BREXIT forecasts awry. If the last year has taught us anything, it is that we’re all pretty hardened to not knowing what comes next. But, in 2017 many uncertainties will solidify into tangible impacts – for good and ill. Before we rip up the text books and exile the experts, we should wait a quarter or two to see what happens next.
As is stands, growth should improve in most major economies – apart from the UK -changing the global balance , as our Chief Economist notes. This should support the current rotation into equities. But huge currency swings and limited investor options complicate any analysis of recent market highs. Is this investor confidence or FOMO (fear of missing out)? Earnings could be very mixed in 2017 – strongly differentiated by currency, inflation and geographic exposures. IPOs should pick up in 2017. Many companies are waiting in the wings. But windows may be short. UK markets could remain on pause until there is more certainty – at least on Article 50. And we anticipate much more volatility in 2017 if the narrative deviates from the current rather benign script
Inflation – or reflation – is the related global story. Not something to overplay, but there is certainly movement (at last), underpinned by a modest rise in oil prices. A good thing for most major economies and something that reinforces the improving growth story – all things being stable. Again we have to consider the UK separately, given the strong inflationary impact of the dramatic fall in sterling, which we’ll only see play out in 2017 as currency hedges expire.
Sterling looks set to tell the story of the UK in 2017, reacting as it does to every political nuance. More so than other markets, dampened by QE – hence HSBC’s sterling Brexometer’. UK exporters without significant import exposures and those who convert overseas revenues into pounds are smiling. But elsewhere – notably in the consumer supply chain – margins are coming pressure. Producers and retailers are working to manage prices by reducing, reformulating and repackaging. But, there’s only so much they can do and it’s going to get tougher for the consumers who drive the UK economy.
We’ve reached a turning point. The return of inflation, limited assets left to buy, question marks over effectiveness and beneficiaries and a comeback for fiscal stimulus suggest that most major advanced economies have likely finished monetary loosening, even if they don’t follow the US example and tighten this year. The UK could be the exception and loosen again, if the economy slips. But overall, the direction of travel has changed – albeit slowly. Creditors are repricing risk. This has been coming for a long time, but the landscape is finally normalising.
“Normalisation” doesn’t mean going back to pre-2007 spreads. Movement will be slow, not necessarily linear and any impact will be delayed by the recent refinancing boom. But there are companies and consumers who have lived on the edge at low rates, so even small moves will start to bite in the end, amplified by any uncertainty and margin squeeze elsewhere. And anything that spooks creditors.
The soaring US dollar is making an early bid to be the most far reaching effect of these changes in 2017. Its climb predates the US election; but post-election expectations of stronger growth and higher interest rates have really sucked in capital – helped by the flatter picture elsewhere. The dollar starts 2017 the strongest against the Yuan since 2008 and the Euro since 2003. If it holds at this level or sinks if market expectations aren’t met re-US policy – the dollar will be one of biggest stories of 2017.
Around 60% of the world’s population use the dollar or linked currencies; dollar debt totalled c.$101t last year – a third in emerging nations; and emerging market portfolios suffered their largest three-month outflows in seven years in Q4 16. Dollar strength will hurt the most exposed – like Turkey, Brazil, Chile, who will feel a boost if it weakens. Mexico has unique challenges. A strong dollar hurts US exporters; but may offer opportunities for companies outside the US, if trade restrictions allow. If the US starts to hurt, the Fed may not meet forecasts for three rises this year.
Dare we mention the D-word? Obviously the capital environment has been incredibly supportive for many years now – to the point where it seemed pointless to even look at refinancing humps. But, given the likely re-pricing of credit, sudden currency switches and rapid changes in capital flows …a rise in distress and default isn’t inconceivable.
Perhaps what we need here is another D-word, differentiation. Most companies have refinanced out beyond 2018 and are resilient enough to cope with what we expect 2017 to hold. But, certain areas will be in focus. Earnings in emerging markets have turned around in the last five years; but there are pockets of weakness – especially amongst those dependent on foreign investment flows. Companies operating well below investment grade have borrowed cheaply for years – refinancing will be a shock. A European bank default is still possible – if we include national bailouts. Maybe even a sovereign is vulnerable? I might be getting ahead my myself and this is something for 2018, but I wouldn’t rule out a shock in 2017.
Another lesson from 2016: uncertainty isn’t enough to derail deal activity, not when there’s the challenge of low growth, disruptive forces and changing behaviours. Last year was the fourth highest for M&A values on record. Of course, 2017 presents new challenges. Companies aren’t just facing uncertainty, but changing capital markets and political landscapes. They may need to rethink their views on geography in a world less enamoured by globalisation. But, no-one can afford to stand still. Companies will still need to be bold – even more bold than 2016.
So, more of the same, but with a twist, Companies need to meet many of the same challenges as 2016; but they may also find partisan governments relaxing rules to create national champions – whilst being less open to major inbound deals. Companies will need to be geographically strategic to protect supply and production chains.
Last year saw a record amount of deals stymied by regulatory and antitrust concerns. Governments of all hues are taking a less laissez-faire attitude towards globalisation. Fiscal stimulus is back. Pay limits for management, caps on consumers’ bills and plant locations are on governments’ agendas. Political lines are blurred – just one reason why polling is so imprecise.
Some interventions may benefit companies. Fiscal stimulus will aid those who benefit from infrastructure spending. Deals with large rivals previously vetoed may now have legs. But, a less predictable, more interventionist environment obviously presents a challenge to businesses used to a more hands-off approach.
Decades of policy and consensus are reversing. There’s a BREXIT cliff-hanger and US policy is still evolving. It’s harder to tell what is true and false – and what is possible and impossible. It looks so obvious in hindsight; but if I had put money on Leicester City, BREXIT and Trump this time last year, I might not be here to write this blog!
After years…decades….of more of the same, 2017 could be a real watershed. Arguably more so than 2008-9, since much of the consensus breaking down now held then and we didn’t have the same level of technological revolution in play. We don’t know for sure what’s coming – and of course much will remain the same – but we know that no-one can rely on the status quo, the old certainties, old models… Companies need to embrace this level of change and the overturning of the familiar as an opportunity, or risk being left behind.