Whether in terms of sanctions, the downturn in international trade or supply shortages, the war in Ukraine is proving costly for the world economy. International economic organisations are starting to get a handle on its precise impact. According to the OECD, the war will trim 1.1 points from the world’s real GDP growth rate this year, to 3.4%. The IMF is on much the same page, having cut its own projection for 2022 by 80bp since January (i.e. since just before the invasion), leaving it at 3.6%. The FactSet consensus splits the difference at 3.5%.
The instability of energy and commodity prices stemming from the triple conjunction of Covid, war in Ukraine and climate change has hardly bypassed emerging countries. Albeit to different degrees, their inflation rates have risen: apart from Russia, which is of course a special case, Brazil and India have been the emerging bloc’s biggest casualties in this respect. Brazilian consumer prices increased by 12.1% in the year to April, compared with a 2022 inflation target of 3.75%. In India, inflation amounted to 7.8% over the same period and is also above its target (4%, with tolerance of 2% either side).
In contrast, Chinese inflation is far tamer. At 2.1% in the year to April, it is still below its target of around 3%. For the reasons we explained in an earlier edition of this strategy letter, China is largely immune from inflationary pressure. Given the authorities’ ‘Zero Covid’ strategy, the unplanned slowdown in economic activity will have serious implications, however. China’s main business sectors are suffering (and could well continue to suffer in the months ahead, thanks to their inertia) a significant downturn: in May, the manufacturing PMI dropped to 46, and the sector contributed 39.4% of Chinese GDP in 2021. More alarmingly still, the PMI for the services sector (53.2% of GDP in 2021) slumped to 36.2.
Against this backdrop, we should not be surprised to have seen emerging market equities underperforming badly since the beginning of March (down 8.4%, compared with a 4% correction for US equities and a 0.6% gain in local currency terms For the European market). Although the partial removal of Covid-related restrictions could bolster Asian equities, the international situation continues to fuel our preference for developed country equities, especially in Europe.
On the corporate front, with 97% of S&P 500 firms now having published their Q1 results, we can now be more bullish on the numbers we reported last month and can confirm the positive trends we saw at the beginning of this results season. Momentum behind positive revisions persists, with a high proportion of positive surprises (77%, compared with 80% in our previous letter), and S&P 500 earnings growth is still an impressive 9.2%. But then the magnitude of surprises is fading: reporting firms have published earnings 4.7% higher than analysts were expecting at the end of March (they were looking for a 4.6% increase in aggregate S&P 500 earnings at the end of the first quarter).
Despite less upbeat projections for Q2, analysts are still largely positive and forecast earnings growth of no less than 10% for 2022 as a whole.