Is a market correction imminent?

Heading into 2020, you could be forgiven for worrying about your investments. A strong 2019 has capped a stellar decade since the financial crisis, especially if your portfolio came close to mirroring the US’s more than 50pc share of global equity market capitalisation. With bonds and shares benefiting equally from ten years of easy money, even a more cautious balanced approach will have served you well.

There’s a short and a longer-term reason why you should be more relaxed than you probably are. First, if you step back from 2019’s rally it looks less impressive than at first glance. Over two years, markets have done OK, but nothing to make you fear a correction must be imminent. In fact, if you strip out the US, the rest of the world has had a fairly disappointing 24 months.

Since the beginning of 2018 the S&P 500 has risen by just over 20pc. That contributed to a 12pc return for the MSCI World index. But the UK, Europe and China are basically where they were two years ago, while Japan’s Nikkei index is just 4pc higher. Emerging markets as a whole are 4pc lower than they were in January 2018.

The longer-term reason not to worry too much emerged as I settled down with 50 years of global stock market data and a calculator on my first day back at work last week (I know how to enjoy myself). I learned the following from half a century of MSCI World stats:

Shares have risen in 36 of 50 calendar years since the start of the 1970s. In 13 of those, the gains have exceeded 20pc. Only three times have shares fallen by more than a fifth in a calendar year and only eight times by 10pc or more. In two of those three really poor years, you would have regained your New Year investment within around two years as the market quickly bounced back.

So, to put that in human terms, if you started investing at the age of 20 in 1970, you have experienced just three really unpleasant investing years as you celebrate your 70th birthday this year. In one year in four since you left university, your investments have, as they did this year, risen by a fifth.

The £1000 you invested in the year the Beatles broke up is today worth more than £23,000. But as you sensibly lived off your salary during those years and prudently reinvested all the dividends from your shares, it is actually worth around £100,000. No wonder compounding is called the eighth wonder of the world.

So, even after the second-best year for investors since the credit crunch, the odds are stacked in your favour. You can indulge in the gambler’s fallacy of thinking that a string of heads must mean tails is on its way, but history suggests you would be wrong. Or at the least that it will matter in the long run less than you fear. And that’s before we’ve even considered the other reasons to stick with your investments in 2020.

The first of these is that a recession this year looks increasingly unlikely. The delayed impact of last year’s interest rate cuts and President Trump’s desire to support the economy and stock market in the run up to November’s election mean corporate earnings should pick up after 2019’s relative stagnation.

The second reason to be positive is that, the US apart, stock market valuations are not excessive. Even on Wall Street, a reasonable case can be made for shares to continue to trade on today’s multiple of earnings or even to become a bit more expensive yet. They certainly did at previous market peaks and sentiment is a long way from the exuberance that marked those periods.

The third reason to favour shares this year is that the decreasing effectiveness of monetary stimulus means that governments wishing to support their economies (all of them) will need to shift their focus to fiscal expansion. More public spending, with the likelihood of higher inflation as a consequence, is much better for shares than bonds so expect a lot of the money that has left equities for fixed income investments to head back the other way.

Shares, then, look like the asset class of choice this year. Bonds feel too expensive in a recovering economy under the threat of resurgent inflation at some point. The same can be said of commercial property where yields are far too low to compensate for rising risks. Unless things get really nasty in the Middle East, commodities like gold and oil will probably neither make nor lose you much this year.

Which stock markets should you focus on this year? As I’ve already hinted, the US feels like it’s priced more good news in than any other market after years of outperformance. I hesitate to step back from the world’s biggest market, because that rarely makes sense, but there’s clearly much better value elsewhere in the world at the moment.

In the short run, Japan looks good in the Olympic year even if there’s plenty to worry about longer-term. Valuations are cheap and there’s plenty of stimulus. A pick-up in global activity will help its exporters just as it will provide a boost to Germany, one of the cheapest markets in another cheap region. I’ve made the case before for the UK market, which remains unpopular ahead of a tricky year of trade negotiations.

The wildcard in 2020 is emerging markets, where relative to the developed world, shares are as cheap as they have been since the Asian currency crisis of more than 20 years ago. An easing of trade tensions, a weaker dollar and ongoing economic reforms are the icing on the cake of a long-term demographic growth story that never really went away. Happy New Year.

Tom Stevenson is an investment director at Fidelity International. The views are his own. He tweets at @tomstevenson63.