Our New World – Western Risk Assets in a Durable Bull Market
Article by Beat Wittmann, Chief Investment Strategist at Key Family Partners
US, German and Japanese Markets Rise to Historic Highs while China and Russia are at Lows
Western risk assets continue to climb throughout geopolitical turmoil. Bipolar political and economic conflicts between the major global powers are ongoing – the West led by the US on one side and China with its lesser alliance partner Russia on the other.
As ever facts speak for themselves and so do respective capital market performances. Equity markets in the US, Germany and Japan reach historic new highs contrary to the lows seen in China and Russia.
These diverging economic and capital market trends will not only continue but to become even more accentuated. 2024 is the biggest election year on record with the US, EU, India and Russia all holding elections. However we don’t expect the global economy nor the capital markets affected in any relevant way.
The Global West Prevails over Autocracy and State Capitalism
After the rather gloomy geopolitical sentiment emanating from the recent Munich Security Conference you would think that autocratic and nationalistic populism will gain the upper hand while booming western capital markets are underestimating geopolitical risks – we clearly don’t think so!
In our view, US, European and Japanese markets simply discount superior cyclical economic performance and strategic resilience and add an unprecedented pent-up structural investment and productivity boom. And clearly, pluralistic, democratic and capitalistic societies will once more prevail over autocratic politics and state directed economies.
Geopolitics – Upcoming Pearl Harbor Shock in Russia’s War with Ukraine
French President Emmanuel Macron recently caused a barrage of criticism by not ruling out to send Western troops into Ukraine. It is easy to join the chorus of public rebuke but Macron has clearly made an intentional and valid point. There is a hot and atrocious war raging on Europe’s Eastern front and the West can’t and will not allow Russia to get away with its military invasion of the sovereign European nation of Ukraine.
Europe just got an alarming wake-up call by Trump’s recent remarks regarding NATO openly encouraging Russia to attack any European NATO member not paying enough. It is painful to see Europe’s lagging response in delivering decisive quality and quantity of military assets to Ukraine. We see an imminent risk of Russia staging a military breakthrough at the Eastern frontline with a springtime offensive supported by its superior number of troops and quantity of ammunition.
Unfortunately, the US, Europe and NATO seem to need a shell-shock Pearl Harbor type event to finally respond with full rehabilitation of national defense capability and capacity and deployment of sufficient military measures and hardware to defeat Russia and re-establish full Ukrainian sovereignty and in extension sustainably secure European sovereignty. Needless to say, that Russia historically and culturally only respects and has understood one language – the one of superior hard power.
Investment and Productivity Cycle of Generational Proportions
Triggered by its response to COVID, the West, spearheaded by the US has already initiated decoupling from Russia and de-risking from China. Coupled with breakthroughs in technology and artificial intelligence (ai) an investment cycle of generational proportions is taking off. The US with its infrastructure investment and jobs-, chips- and science and inflation reduction acts encompass all areas of critical infrastructure and have already started to impact and explain the US extraordinary and superior strategic and economic performance and resilience.
Europe is in much need to follow suit but is lagging those developments, mainly due to economic, financial and industrial fragmentation as well as more nation-specific, decentralized policymaking. However, increasing geopolitical and climate-change pressures to address the energy transition coupled with security and defense questions in particular will have to lead to decisive steps. No doubt, the completion of a banking and capital market union would facilitate meeting the huge and ongoing financing needs.
Overdue Reform Needs of European Public Finances
Europe has irresponsibly wasted its peace dividend since the end of the cold war in 1989 by continually and unsustainably increasing social spending, subsidies and redistribution policies, while systematically neglecting investments in energy transition, transportation, digitalization, education and science and worst of all defense spending.
There now is a clear and present urgency to rehabilitate and invest in all areas of critical infrastructure and defense. This can only be financed by radically and structurally reforming public finances while creating the incentives to attract private pools of capital.
Public discourse, democratic decision making and rigorous policy implementation is much needed about fundamentally restructuring public finances. In addition powerful lobby and voter groups such as farmers, unions and pensioners need to be confronted to cut social spending, wasteful and competition distorting subsidies and increase pension age – France has done it against months of street protests.
Switzerland – The 2024 European Champion of Complacency
Perhaps no other European country than Switzerland exemplifies the complacency about ever increasing social spending at the expense of future generations and not spending on defense, and as a result free-riding on its NATO neighbors.
The Swiss Parliament has just voted against an overdue increase in defence spending despite the fact that Switzerland’s army has been starved of resources to an extent that it is currently not deployable and ranks at the bottom of the European context. Ironically, the responsibility lies with an unholy alliance of left army opponents and nationalist populists spearheaded by Swiss farmers who value their record high subsidies more than national defence.
Last weekend Swiss voters accepted yet another generous and financially irresponsible increase in pension benefits by a clear majority vote while rejecting an increase in pension age.
As a result of these unsustainable developments expect a sharp increase in political and economic polarization in Switzerland, culminating in the ongoing discussion about a new institutional framework between Switzerland and the EU.
Capital Markets Remain Risk-on and Equities Asset Class of Choice
The key driver of positive returns of risk assets in 2024 is the normalization trend of the US monetary and credit cycle. We expect that equities remain the asset class of choice with the main beneficiaries continuing to be US, European and Japanese equities. The biggest secular investment theme is critical infrastructure led by sectors such as technology, energy transition and defense.
Rising fund flows from revived animal spirits are providing an important tailwind. This is best exemplified by the accelerated rise of the US technology sector led by ai bellwether stock Nvidia and the sharp and speculative price advances of bitcoin.
Some underperforming markets such as China might catch up temporarily and to some extent as their governments will engage in some short-term economic fixes, however we don’t expect true and lasting pro-market reforms and therefore no fundamental equity market re-ratings in any foreseeable future.
Attractive economic and investment opportunities originate from geographic locations such as Singapore and the Arabian Gulf states with relevant comparative advantages and being in a position to benefit from the ongoing geopolitical big power rivalry between the US and China.
