Electric Shock

The ‘AI’ induced ‘Magnificent Seven’ produced an average return of over 100% in 2023, compared to the S&P 500 returning 24% and have dominated markets over the last twelve months.*

The seven in question are Nvidia, Microsoft, Apple, Amazon, Alphabet, Tesla, and Meta, but they have so far enjoyed a very mixed 2024.

The momentum appears to now be shifting and one or two have seen their halo slip. Besides accounting for a dominant share of global indices weightings, have some of them become too big for comfort from a political point of view? For example, Apple is now the recipient of an anti-trust lawsuit by the US Justice Department for the attempted monopolisation of smartphone markets.

Tesla is another constituent of the ‘Magnificent Seven’ to struggle more recently. Following disappointing overall electric vehicle (EV) sales, it has announced it is to cut its workforce by more than 10%, suggesting some 14,000 redundancies. Tesla has also cut its prices again in a number of major markets including the US, China and Germany.

However, Tesla is not alone amongst EV manufacturers in encountering more challenging trading. Many of China’s EV car makers are suffering from increased competition in their home market. The largest, BYD slashed prices of almost every model at the start of the year and was followed by its domestic competitors.

Given China is relying on EV exports to help revive its economic fortunes, current domestic demand weakness must be a concern. There are increasing concerns China will flood Europe with cheap electric cars. BYD reported a 130% increase in exports in the first quarter of 2024. Meanwhile, China has filed a complaint with the WTO against the US and its requirements to exclude Chinese components from EVs. However, the EU is concerned by Chinese subsidies for its EV manufacturers including $3.7bn for BYD and has called for this to be investigated.

A car purchase is a ‘big-ticket’ item and together with car financing is linked to interest rates. Will electric vehicle sales be stimulated once central banks start cutting interest rates? Will the escalating conflict in the Middle East push up petrol prices and help EV sales?

Perhaps the Apple and Tesla news is a reminder that there is always a risk in letting a single theme or small group of companies dominate an equity portfolio. Likewise, even the ‘Magnificent Seven’ leader Nvidia, has dropped some 20% from its recent highs in late March, with a 10% fall on Friday.

One further sobering thought – in the 1960 film ‘The Magnificent Seven’ – only three survived and one of these was wounded!

Source: FactSet*

What have we been watching?

Markets were in a more cautious mood last week overshadowed by US interest rates and geo-political uncertainty. While Israel crossed a red line in attacking Iran’s consulate in Damascus, Iran in turn crossed another red line in firing missiles and drones from its own territory against Israel. In retaliation, Israel then launched a limited missile and drone strike on a nuclear facility and airbase in Isfahan, in central Iran. Israel has not officially acknowledged the attack while Iran has downplayed it and has dismissed the attack, suggesting nothing of consequence happened at all. Markets breathed a collective sigh of relief as the tit-for-tat attacks could have escalated more seriously. However, the situation in the Middle East remains tense with Israel still looking to attack Hamas in Rafah and ongoing cross border strikes between the IDF and Hezbollah along the border with Lebanon. Brent oil drifted lower to $86. The world does not want another energy shock like that experienced after Russia’s invasion of Ukraine just as inflation is coming down.

Elsewhere, the US House of Representatives approved a $61bn military aid package for Ukraine. This will frustrate Putin who may have felt victory was within his grasp, but he will no doubt return to ‘Plan B’ with hopes of a Trump US presidential election win and war weariness.

Federal Reserve (Fed) Chair Jerome Powell warned that it was likely to take ‘longer than expected’ for inflation to return to the Fed’s 2% target. Market expectations have been adjusting to just two US interest rate cuts in 2024 with the first move in September rather then June. However, a growing minority are betting there will be one or even no cuts. Meanwhile, Christine Lagarde, president of the European Central Bank said it was still on track to cut interest rates ‘in reasonably short order’ providing there were no big shocks from the Middle East. The ECB is expected to announce the first cut in June. Are we now potentially entering the unknown, with the rising possibility of a divergent Fed-ECB interest rate policy cycle? The prospect of higher for longer US interest rates and Middle East uncertainty has driven government bond yields higher with the US 10-year Treasury yield climbing above 4.65%. The German 10-year Bund yield climbed above 2.5%. Meanwhile, the pace of UK inflation continued to slow in March and should do so even more in April keeping the Bank of England on track for the first cut in August, although some are hoping that this could be in June.

Meanwhile, the IMF issued its bi-annual government debt report in which it warned that the US and China should act to lower borrowing which if current policies remain in place, risk having ‘profound’ effects on the global economy. It believes both countries could lead to arise in global government debt to 98.8% of economic output by 2029. US debt could rise to almost 124% of GDP by 2029 while China’s debt could rise to 110%. The IMF noted the large fiscal slippage in the US in 2023 with government debt exceeding revenue by 8.8% of GDP.

US and China trade relations were also front and centre as the US presidential race gathers momentum. President Joe Biden has called for a trebling of tariffs on Chinese steel and aluminium. This comes as the US Trade Representative is launching an investigation into China’s trade practices in the shipbuilding, maritime and logistics sectors following requests from five American trade unions. Meanwhile, there are US media reports suggesting that, if elected, Donald Trump might seek to devalue the US Dollar to address the US trade deficit and boost US exports. If true, this would be inflationary and as the Dollar is the primary reserve currency around the world would  impact everything from debt service to global financial markets.

---

 

In the UK, inflation slowed from 3.4% to 3.2% in March although this was slightly higher than expected. The lower price of some foods, furniture and household goods was countered by higher fuel prices. Events in the Middle East will no doubt create uncertainty for the Bank of England but April’s inflation data should see a strong drop, reflecting the energy price cap reduction. However, inflation within the service sector remains ‘sticky’ at 6%.

---

 

In Europe, there was encouraging news as the Bundesbank said that the German economy is likely to have grown slightly in the first quarter of 2024.

---

 

In the US, home sales in March fell by 4.3%, the biggest decline in more than a year. The average rate on a US 30-year fixed rate mortgage has moved back toward 7%.

---

 

China’s economy made a stronger-than -expected start to the year, growing by 5.3%. However, retail sales fell by 3.1% while property investment dropped by 9.5%. Just how much times have changed was reflected in Swiss watch exports to China which, plummeted by 42% in March. Weak consumer demand raises concerns that China’s economy is being propped up by manufactured goods and may end up flooding Western export markets. Furthermore, if Chinese consumer spending does not pick-up, will China fall short of its ambitious 5% economic growth target?

---

 

Brent oil dropped back to $86 as Israel and Iran carried out missile attacks but did not take further action.

---

Finally, AI is expected to be transformational in the years ahead but may come with a price for the environment. The CEO of chip maker ARM estimates that AI data centres could consume 25% of US energy output by 2030, compared with 4% currently. The International Energy Agency estimates that a ChatGPT request uses as much as ten times the power of a Google search. If this extra energy demand is met by renewables such as wind and solar that’s fine but if not, then it sounds as if we should be shorting polar bear futures.

---

 

Read Last Week’s Alpha Bites – Geo-Political Tectonics

Further information about Alpha Portfolio Management, our products and services, please visit www.alpha-pm.co.uk or email info@alpha-pm.co.uk. Alternatively, you can call us on 0117 203 3460.

This publication is for informational purposes only and should not be relied upon. The opinions expressed here represent analysis by an Alpha Portfolio Management representative at the time of preparation and should not be interpreted as investment advice.

You should seek professional advice before making any investment decisions. The past is not necessarily a guide to future performance. The value of shares and the income from them can fall as well as rise and investors may get back less than they originally invested. The sender does not accept legal responsibility for any errors or omissions, in the context of this message, which arise as a result of internet transmission or as a result of changes made to this document after it was sent.

Alpha Portfolio Management is a trading name of R C Brown Investment Management PLC which is authorised and regulated by the FCA.
Registered Office: 1 The Square, Temple Quay, Bristol, BS1 6DG. Registered in England No. 2489639
Copyright © 2021 Alpha Portfolio Management, All rights reserved

Trading name text

Alpha Portfolio Management is a trading name of R C Brown Investment Management PLC which is authorised and regulated by the Financial Conduct Authority.