Where now for markets?

Posted by melaniebond

The last week has seen a bout of increased stock market volatility.

Over the last 10 years, we have become accustomed to occasional market wobbles, but is this another wobble or something worse?

The answer, unhelpfully, is nobody really knows and won’t know until either the recovery kicks in or the market falls further.

There is a chance that this latest round of market volatility could result in sustained falls across global markets as a self-fulfilling prophecy takes hold, whereby enough doomsayers wish the market lower and eventually their wish comes true.

The majority of fund managers and market commentators, whilst not willing to pin their colours to the mast, are relating the current stock market movements to those of 2015. The world is facing a perfect storm of increased geopolitical risk, trade wars, concerns over the Italian Bond market, US mid-term elections and concerns over rising inflation and Brexit.

Each of these factors can be addressed in their own right and a logical, likely solution can be put forward for each one, but combine them together into a mass of worry and there is a chance that this volatility could continue and worsen.

It is noticeable though that markets are trying hard to bottom out. The FTSE 100 has dipped below 7,000, but throughout trading hours it is repeatedly rising up again and there seems to be resistance to a further sell off.

The sell off so far has been fairly indiscriminate, but it is noticeable that certain types of stock and styles have held up better than others, so for example funds with a value bias that have been relatively unloved in recent years have fallen less than the more populist growth stocks, which have been flavour of the month for too long.

No sustained level of volatility in markets feels positive, but if we believe that many of the global issues will be addressed, then there are more factors weighing in favour of a recovery from here than further significant falls. The bull run cannot last forever and each time the market falls, but then corrects itself, we pull closer to the point at which the bull run will end, but for now the consensus is more in favour of this being a temporary situation than the advent of a bear market.

To give that some context, the US mid-term elections are imminent and much of the Trump trade war rhetoric has been set up to coincide with a rally for votes. This issue will pass soon as the election is set for 6th November.

The Italian bond market is a genuine concern and is perhaps the biggest threat the ECB has faced, but the scale of the Italian bond market gives it “too big to fail status” meaning that there has to be noise around it to ensure there is a solution. If no solution is found, then the whole global bond market seizes up, not just Italy, so again logic and history suggest a solution has to be found.

Rising inflation and interest rates are deemed to be negative, but in this particular market cycle they have been well signposted and the reality is that some inflation is necessary and a sign of positive economic growth as long as it is controlled.

One must always consider the contrarian view and be prepared to rotate the portfolio in the event that the US economy doesn’t continue to thrive under Trump, that the US Dollar weakens against the consensus view, that the Federal Reserve acts against Donald Trump with regard to interest rates and that there is a no deal Brexit with an ensuing UK General Election, but that will be only be known in the coming days and weeks and as it stands, there isn’t enough evidence to suggest that we should be there yet.

Those doomsayers will now raise their heads and cite what has happened in markets over the past week as evidence that they were right, that emerging markets were flawed and that the global economy is now on a downward trend, but they have been predicting that for months, if not years and eventually they will be right, but perhaps not yet, so we need to continue to monitor the markets and funds.

The shakeout in markets will throw up opportunities to increase our weightings to those areas where we have the most conviction and the mini rotation we have seen to value stocks falls in line with our views on which markets will recover and hold up best in the future.

The easy thing would be to sell to cash and history may prove that to have been the right call, but our current view is that this is a bout of volatility, albeit more sustained than we have seen for a while, but nothing more sinister at this stage. If our view changes, we will take action, but our base case is that we will see more of these bouts in the future and as a result, investment selection will be key to future returns, more so than just buying the index in volatile times.