The impact from Greece’s fiscal crisis on the euro (and related concerns about sterling) has led to a stronger dollar boosting returns for non-dollar based investors in US funds.
Over the past two years ending April, the S&P 500 Index has outperformed the FTSE 100 Index.
In addition, it has suffered a substantially lower maximum drawdown in sterling terms. Despite this, UK advisers remain underweight significantly the US in global portfolios relative to the US’s economic size or market capitalisation in the world. We see this changing as the dynamism of the US leads investors to reverse underweight positions.
Our continued stock market optimism rests mainly on the fact the economy is recovering without igniting inflation and, most importantly, the benefits from the swiftest and most far reaching wave of corporate restructuring I have witnessed during my professional career are just starting to yield benefits to profits. As we screen our investable universe, we see margins and returns on capital rising for a majority of companies for the first time in over two years.
Furthermore, the levels of profit margin are well below prior peaks. In the US, excess capacity, both assets and employees, across the board in companies has been scaled back dramatically. For our selection criteria companies leading their peers in meeting the challenges of the recession and now leveraging lean balance sheets with strong profit margin momentum during recovery are featured prominently.
This better relative US growth will support the dollar versus other currencies.
Aside from better economic growth, the Greek fiscal crisis is a transformational moment about sovereign risk perception and in breaking the correlation of good US stock market, weak dollar for UK investors in US funds.
Despite the recent headlines about the success from the rescue package, we see the situation in Greece deteriorating further and spreading. In the end, it is hard for us not to see, despite the rules of euro membership, Greece re-instituting the local drachma for domestic use in paying government salaries and tax collection and maintaining the euro for international exchange.
The same situation will likely play out in the rest of the Piigs countries next year providing a focus back to the dollar as questions about the euro remain.
James Abate is manager of the PSigma American Growth fund
