THE world’s largest economy expanded just 0.1% on an annual basis in the first quarter of 2014, fuelling fears that the US recovery is much more fragile than hoped, writes Samantha Dolby of Brewin Dolphin. 

As a result, the pound has strengthened to a new 4 ½ year high against the dollar with the freezing temperatures and reduced investment blamed for the slowdown.

However, things are not so bad on the other side of the Atlantic. In what was the fifth consecutive period of GDP growth, the longest positive run since the financial crisis, the UK economy expanded by 0.8% in the first quarter of 2014.

The UK economy is now only 0.6% smaller than at its peak in 2008 with UK manufacturing output growing by 1.3% and the service sectors growing by 0.9%. With inflation at its lowest rate in more than four years, down to 1.6% (below the 2% target), the International Monetary Fund expects the UK to be one of the best performing of the world’s largest economies in 2014, predicting growth of 2.9% and the Bank of England raised its 2014 forecast to 3.4%. This however cannot be taken for granted. Many aren’t feeling the effects of the improvement and are calling for a balanced recovery that is built to last.

So what about Europe? For the fourth year in a row, expectations of earnings growth for European companies at the beginning of the year have proven over optimistic whereby some of the largest European firm’s earnings forecasts have been downgraded by as much as 40%.

The downgrades highlight the pressures that continue to affect profitability in Europe. Despite European stock markets rising significantly, there is still little sign of improving macroeconomic fundamentals feeding though to bottom lines.

The strong Euro, emerging market turbulence, snow in the US and rising geopolitical tensions between Russia and the West over Ukraine have all contributed to the gloom and market volatility in 2014. Around one third of European companies’ revenues come from sales in emerging markets and currency movements have contributed towards the weakness in numbers.

Despite the buoyant European markets, longer term issues are not being addressed. There is little sign of companies increasing their capital expenditure plans in expectation of strong future growth. Some believe merger and acquisitions will be a higher priority than capital expenditure.

To add stability to the European recovery, growth has to feed through and impact company profitability. The gap between the macroeconomic figures and earnings momentum in Europe is the largest for more than a decade. Whilst the slowdown in America had largely been priced in, the longer term outlook is still positive.

Spending on healthcare has dramatically increased in the US as people enrol in President Obama’s flagship Affordable Care Act and Janet Yellen has repeatedly confirmed the Central Bank will continue to wind down its bond buying scheme as long as the US recovery and employment situation is improving as expected. Despite a number of cautious statistics, there are still plenty of reasons to be positive.

samantha.dolby@brewin.co.uk

Samantha Dolby is an Investment Manager at Brewin Dolphin and offers advice on a wide range of financial services to private clients, trusts, charities and pension funds.  

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