An overdue health check for global markets
Markets have seen a pullback in the past few days. Let’s be clear - in the long span of financial history, this is not news. Yet in a world where the concept of a “correction” almost feels alien and where equities felt like an unstoppable one-way bet for a while, the normality of a setback can feel more painful.
But what we have seen is perhaps the greatest sign of the true health in markets for a long time. The tech-fuelled rally in the US had long lost any sense of reality in its valuations, the prospect of inflation remaining low forever could not last, and we have a new and untested chair of the US Federal Reserve. It would be more worrying if markets didn’t react to all of this.
Even accounting for recent price action, US equities remain up by around 50% since early 2016. The current price action may feel unusual because we have become so used to a low volatility environment, with economic data having been consistently positive across the globe in 2017.
So where do we go from here?
Alan Greenspan, a former Fed chair, said last week that bond and equity markets were in a bubble. But there is little new in this. It doesn’t take a former Fed chair to tell you that bond markets are in a bubble when yields on two-year German bunds are trading below the European Central Banks’s deposit rate, or that equities are vulnerable to a pullback when they have been breaking decades-old records for the past several months.
Bubbles can possibly persist for a long time, and while we might see a resumption of the previous (tech-led) trend, it seems more likely that this pause for breath will lead to a reassessment of the market’s leadership.
What might derail this thesis? The new Fed chair, Jerome Powell, has the potential to misstep in more ways than one. As ever, the central bank head has to walk a tightrope between prudence and sentiment. Either overtightening or a delay in tightening that would suggest a loss in confidence could spook equity markets and lead to a further leg down.
However, markets will understand that the new Fed chair was chosen in part because of his soft stance on interest rate. The risk of interpreting his statements as concerningly dovish therefore seems low.
Powell also has more ammunition than just his dovish public statements for convincing investors that he is not about to dramatically raise rates. Average hourly earnings may have surprised to the upside in the US, but it’s not clear that this is a marked uptrend. A twelve-month moving average of the same series looks more muted, and other measures of wage growth, such as the employment cost index, also look lacklustre. This provides cover to those like Jerome Powell, who will likely argue for a gradual pace of rate rises, rather than a sharp tightening.
There are weaknesses across various equity sectors, but none so large yet the market is likely to fall through them. My money remains on equities - but rotating (and buying on weakness) into “value” areas of the market that have lagged in the recent momentum-driven rally. I’d also be avoiding stocks where dividend yields aren’t backed up by strong free cash flow and a solid balance sheet - the search for yield hasn’t just inflated higher-yielding stocks, it has fundamentally altered the business models of some companies for the worse. This supports the case for active management at the latter stages of the cycle. Holding this course if and when volatility eases won’t seem easy - but at this stage of the cycle, keeping your head when others are losing theirs is important.
The value of investments and the income from them can go down as well as up so you may get back less than you invest. Past performance is not a reliable indicator of future results.
These materials are provided for information purposes only and are intended only for the person or entity to which it is sent.
These materials do not constitute a distribution, an offer or solicitation to engage the investment management services of Fidelity, or an offer to buy or sell or the solicitation of any offer to buy or sell any securities or investment product.
Fidelity makes no representations that the contents are appropriate for use in all locations or that the transactions or services discussed are available or appropriate for sale or use in all jurisdictions or countries or by all investors or counterparties.
Investors should also note that the views expressed may no longer be current and may have already been acted upon by Fidelity. They are valid only as of the date indicated and are subject to change without notice.
Investments carry risk of significant losses to your capital. Please remember past performance is not a reliable indicator of future performance.
This document is issued by FIL Responsible Entity (Australia) Limited ABN 33 148 059 009, AFSL No. 409340 (“Fidelity Australia”). Fidelity Australia is a member of the FIL Limited group of companies commonly known as Fidelity International.
Investments in overseas markets can be affected by currency exchange and this may affect the value of your investment. Investments in small and emerging markets can be more volatile than investments in developed markets.
This document is intended for use by advisers and wholesale investors. Retail investors should not rely on any information in this document without first seeking advice from their financial adviser. This document has been prepared without taking into account your objectives, financial situation or needs. You should consider these matters before acting on the information. You should also consider the relevant Product Disclosure Statements (“PDS”) for any Fidelity Australia product mentioned in this document before making any decision about whether to acquire the product. The PDS can be obtained by contacting Fidelity Australia on 1800 119 270 or by downloading it from our website at www.fidelity.com.au. This document may include general commentary on market activity, sector trends or other broad-based economic or political conditions that should not be taken as investment advice. Information stated herein about specific securities is subject to change. Any reference to specific securities should not be taken as a recommendation to buy, sell or hold these securities. While the information contained in this document has been prepared with reasonable care, no responsibility or liability is accepted for any errors or omissions or misstatements however caused. This document is intended as general information only. The document may not be reproduced or transmitted without prior written permission of Fidelity Australia. The issuer of Fidelity’s managed investment schemes is FIL Responsible Entity (Australia) Limited ABN 33 148 059 009. Reference to ($) are in Australian dollars unless stated otherwise.
© 2019 FIL Responsible Entity (Australia) Limited. Fidelity, Fidelity International and the Fidelity International logo and F symbol are trademarks of FIL Limited.
Ready to invest in the Fidelity Global Equities Fund?Discover now