Advances in energy could fuel a lasting recovery

As the Paddington Bear film hits the nation's cinema screens, Darkest Peru is going to attract a fair bit more attention than usual and from a financial perspective Lima's government is trying hard to write a few headlines of its own. According to the Financial Times newspaper, the Peruvian finance minister, Alonso Seguera, this week (24 Nov) announced a $4 billion stimulus package designed to boost economic growth in 2015.

This follows on from the announcement of programmes designed to boost growth in Japan, China and the Eurozone to name just three. In each case there are plans to encourage more borrowing, through measures such as cuts to borrowing costs, cheap funding for banks or Quantitative Easing (QE) and the crushing of interest rates.

At a time when the global economy is still looking for escape velocity six years after a crisis caused by excess liabilities, offering more chances to borrow looks like an interesting policy response, especially as the results so far look mixed at best.

America's experiences may offer a cautionary tale. The second estimate of third-quarter GDP growth, revised upward from 3.3% to 3.9%, undeniably reads well but the longer-term picture is less rosy. The chart below shows the compound annual growth rate in US GDP by decade, relative to how America's aggregate sovereign debt has developed (as measured by the total sum of Treasuries in issue). The more debt America has taken on, the slower its growth trajectory seems to have become.

Adding more and more debt may have restrained American growth, not boosted it.

Source: Reuters Datastream, www.treasurydirect.gov, AJ Bell Research

A more positive development is how American innovation in the area of shale gas and oil is playing a huge role in the country's recovery, despite fierce debate over the pros and cons of fracking. Under these circumstances, it is to be hoped AXA Investment Management's Mark Tinker's enthusiasm for future technological developments proves infectious.

The Head of Asia's latest blog waxes lyrical about a speech given in Hong Kong by Stanford University's Tony Seba which focussed on the potential of electric vehicles, self-driving card and solar electricity. All three have the scope to break the world's ties to oil, lower fuel costs and increase energy efficiency, giving productivity a welcome push at a time when it is sorely needed. Jeremy Grantham's latest piece for US fund management house GMO also looks at develops in the world of energy, particularly electric vehicles, liquid metal batteries and energy storage, developments which could help lessen our dependence upon oil when it is becoming more expensive to find and extract, whatever the price of crude may tell us.

From a client perspective, technology is a difficult area, where picking winners is hard and losers easy. As Simon Laing, head of US equities at Invesco Perpetual commented in a recent meeting, the disruptive forces of two years ago are now facing disruptive competition.

As such, a technology fund may provide patient, risk-tolerant clients with their chance to participate in any upside that results from “the next big thing.” There is a decent list from which to choose in both the open and closed-ended spheres. Clients can also scan a short menu of Exchange-Traded Funds, although note that all ETFs dedicated to global technology use synthetic, or indirect, replication methods. They own plenty of collateral, as outlined on the respective providers' websites, but they do not physically own the tech stocks which comprise the underlying index.

Best performing technology funds over the last three years

Source: Morningstar, for the Sector Equity Technology category. Clean funds only. Where more than one class of fund features only the best performer is listed.

Best performing technology investment trusts over the last three years

Source: Morningstar, The Association of Investment Companies, for the Sector Specialist: Tech Media Telecoms category *Share price. ** Includes performance fee.

Best performing technology ETFs over the last three years

Source: Morningstar, for the Sector Equity Technology category Where more than one class of fund features only the best performer is listed.

Float down to Peru

The FT notes Peru's latest programme is its fourth such stimulus scheme this year. A sum of $4 billion is likely to go on tax breaks, although the report also adds $1 billion will come from bond issuance to fund government-backed investment projects. Peru's plan for 2015 thus raises two issues:

• First, it makes you wonder just how successful the first three stimulus programmes were. The need for a fourth would suggest the answer is “not very.”
• Second, Peru is raising debt. Jan Dehn at emerging market specialist fund manager Ashmore regularly champions Peru's reform credentials and stresses how it is financially prepared for tougher times ahead. Yet there are countries or economic blocs whose balance sheets are in much worse shape who are also embarking upon fresh stimulus schemes, notably Japan and the Eurozone. China, whose public finances are in better shape, is looking to do what it can as well at a time when private sector debt could be one of its over-riding problems.

America's experiences raise questions over the wisdom adding more debt, as do those of Japan, which is still fighting to restore decent trend growth rates 25 years after its stock market peaked and a property bubble popped. Nevertheless, Japanese and Chinese equity indices are surging, while the Euro Stoxx 600 is also rebounding nicely from October's stumble. Markets are always happier when they are travelling rather than arriving yet those clients who wish to get involved and chase short-term gains need to think about the long-term implications of these policy measures.

News of stimulus packages is boosting equity markets

Source: Thomson Reuters Datastream

Japan has been trying Quantitative Easing (QE) and a zero interest rate policy (ZIRP) since the early 2000s. It is hard to be sure that October's decision to try more of something that has already comprehensively failed to deliver over a 12-to-15-year period is the right one.

Japan's patchy economic progress makes a weak case for more QE

Source: Thomson Reuters Datastream

Future

If there is to be debt then borrowers must use it wisely. The risk posed by QE and other schemes offering cheap lolly is that this cash is used for financial speculation rather than projects which can bring lasting productivity gains. If there is any inflation in the world today it can be seen in financial assets, as evidenced by stock and bond indices, let alone the prices paid at recent art and bloodstock sales. Commodities are the intriguing exception and whether this is because the economy is sagging, supply is growing or a combination of the two remains to be seen; in the case of art there is only one of a certain painting or sculpture and only so many foals sired by a given stallion each year.

Debt can be used to good purpose, as the International Monetary Fund's call for more investment in infrastructure argues (see How infrastructure can provide portfolios with sound foundations, 10 Oct 2014). South Korea's summer $40 billion stimulus scheme targeted small business funding, which seems sensible enough and also set out to fresh new debt issuance. The Eurozone's rumoured €315 billion scheme, as devised by EU President Jean-Claude Juncker, is designed to stir private investment by injecting small sums of public seed capital.

Europe may be in a hole but neither the Korean nor Juncker plan smacks of the desperation that characterises the efforts of Japan, where the solution to previous failures appears be the implementation of the same policies, only on an even grander scale.

Einstein once stated that the definition of insanity is “doing the same thing over and over again and expecting different results.” Whether world's central banks, Presidents and Prime Ministers are losing the plot remains to be seen but the economic progress made since 2009 suggests they need some help along the way.

Perhaps the clean energy and technology sectors will provide at least some of that invaluable assistance, meaning that investment policy and tax breaks should focus on areas such as this. It is easy to sniff at subjects which seem like pie in the sky but so many technologies have proved to be more wide-ranging in their impact than anybody dared think. IBM chairman Thomas J. Watson reckoned back in the 1940s that the world would need as many as five computers, a view that turned out to be rather conservative. The internet continues to hollow out some industries but spawn new ones.

Major breakthroughs in energy efficiency and battery technologies could just help the world free itself from its debt logjam.

Russ Mould, AJ Bell Investment Director.