Chief Investment Strategist
Global stock markets have largely settled down in the aftermath of the recent sell-off. Share prices, having undergone the sharpest downswing in six years, then experienced the biggest bounce back in six years. In dollar terms, the FTSE World Index is now back in positive territory for the year to date. The VIX, market volatility index, has moved back below the long term average of 20, after spiking up to 50 on 6th February.
Can we now dismiss this as a technical correction rather than the start of something new in markets?For now the answer is probably yes. Markets were very overbought in January (a record $102 billion flowed into equity funds in that month alone). The US wage data number that was announced on 2nd February was the highest in over eight years, and pushed up bond yields. This, in turn provoked some aggressive selling of equities as volatility spiked higher. Many commentators, ourselves included, had been feeling that the market was due a correction – it just wasn’t clear what would trigger it.
Reflecting on what has changed, the answer is relatively little. The global economy is still in good shape and corporate earnings announcements have been largely positive. Inflation may be nudging up, but there is no sense that it is about to unleash in an alarming fashion. Bond yields remain well below pre-financial crisis levels and central banks are unlikely to panic and raise interest rates too aggressively. We have not had a market correction for two years and events such as this are fairly normal. There is no reason, therefore, to believe that the current bull market is over.
Evidence of the rising US inflation pressures continued to mount last week. Consumer prices rose by 2.1% on the year to January, while both producer prices and import costs were stronger than expected. This follows on from the recent spike in wages and comes at a time when the Trump administration is implementing large tax cuts and boosting government spending. Unsurprisingly, bond investors are a bit nervous about developments and expectations for Fed rate hikes continue to increase. However, it is worth pointing out that inflation in other parts of the world – notably the Eurozone and Japan – is still very low, so we would expect any rise in bond yields to be fairly contained for now. We also doubt the Fed is about to slam on the brakes and kill the recovery – central banks have spent the last 5 years and more trying to generate a bit of inflation so will probably welcome it as long as it doesn’t pick up too much.
The UK remains somewhat in a world of its own. Overall, inflation is close to peaking as the impact of Sterling’s depreciation on import costs begins to wane. However, consumers remain cautious judging by the latest retail sales which were very soft, apart from the inevitable ‘New Year’s resolution’ spending on gym wear. In stark contrast, growth in the Eurozone remains strong with the German economy growing at nearly 3% in Q4 and French unemployment dropping sharply in recent months.
This week there is a slight dearth of key data other than the UK unemployment numbers and German business confidence. Markets are also beginning to look ahead to 4th March which is the date of both the Italian election and the day we will receive the result of the SPD membership vote on the German coalition deal.
Investors should remember that the value of investments, and the income from them, can go down as well as up. You may not recover what you invest. This commentary has been produced for information purposes only and isn’t intended to constitute financial advice; investments referred to may not be suitable for all recipients.