Please find below our Market Update for the week ending 2nd November 2018.
A brief insight into the latest market dynamics and details of any changes occurring within our model portfolios.
Blue Sky Comment
Well, what a month that was. October 2018 proved to be vicious for equity investors.
The financial press are queuing up to make claims as to how this month ranks historically.
Bloomberg states that global equities have lost almost 8 trillion US Dollars, the worst monthly sell off since 2008. However, in absolute terms, the market capitalisation has increased by roughly 50% since the financial crisis. Regardless, the sell off has been brutal and has been led by US markets.
The S&P fell almost 7% in October, its worst month since 2011. The Dow shed 5%, its roughest month since January 2016.
The Nasdaq had a real month to forget, down over 9% in its worst month since November 2008.
It could have been worse. The Dow Jones Industrial Average surged 241 points on the last day of the month bringing its two-day gain to nearly 650 points, while the S&P 500 gained more than 1 percent. Strong earnings from General Motors and Facebook lifted sentiment.
“The earnings story is flip-flopping between being very good and pretty good,” said Craig Birk, CIO at Personal Capital. “There’s also some optimism that a breakthrough on trade could happen. The drop this month came out of nowhere. Usually that’s a sign of a correction and not a bear market,” he said. “Usually a bear market rolls more slowly.”
Equities have been under pressure this month amid renewed concern over rising interest rates and U.S.-China trade relations, as well as worries about slowing corporate earnings growth.
Ryan Detrick, senior market strategist at LPL Financial, thinks the situation is not as bad as it seems.
“Even though the list of worries has grown in October, it is quite reassuring to know that consensus estimates for 2019 S&P 500 earnings per share actually increased this month,” Detrick said. “Call us old school, but we still think earnings drive long-term stock gains, and this is a great sign amid all the market volatility.”
As of 2nd November, it is good to see that equity markets are staging a recovery with the FTSE 100 rising by over 3.00% from its recent lows.
Blue Sky’s market comments in conjunction with our investment partners
Is it fair to blame the Fed for the volatility in the market?
Over the past few weeks, we have seen equity markets fall and volatility pick up. President Trump, never shy of pointing a finger, quickly pushed the blame on his central bankers who have been normalising interest rates. He labelled them ‘loco’ while branding their interest rate increases as ridiculous. So, is the Federal Reserve (Fed) just doing their job or does the president have a point?
It is important to remember that the President nominated the current Fed chair, Jerome Powell, back in November 2017. Powell was seen as the continuation candidate and given his predecessor’s (Janet Yellen) dovish tilt, his nomination seemed to indicate a preference of low interest rates by the president. It is easy to see why a real estate developer would favour low borrowing costs, especially given his prior painful experience in Atlantic City. Central banks lower interest to stimulate the economy during periods of slower growth and subsequently raise interest rates as the economy picks up in order to encourage consumers to save more and spend less.
Taking a closer look at the US economy, there are several factors that support further increases in interest rates. Firstly, unemployment has reached a 49-year low in the US indicating a strong economy where wage pressures are increasing. Job openings rose to new record high of 7.14 million which equates to 1.15 jobs per unemployed person. The quits rate, which tracks employee driven job separations, stands at 2.4%, levels last seen 17 years ago. From a business perspective, survey indicators show confidence in future economic prospects across a broad array of participants. The Small Business Optimism Index reached a new all-time high in August, which tracks 800 small companies since 1974. This broad-based confidence, aided by the fiscal stimulus plans enacted at the end of last year, has spurred US growth above its long-term trend levels.
Hence, it is prudent for the central bank to move interest rates gradually higher to avoid excessive consumption in the economy rather than having to respond more aggressively in the future. Whilst the president likes interest rates to remain low, his fiscal plans have increased the need for the Federal Reserve to raise interest rates to slow the economy gradually down to a sustainable pace. Whether they can achieve this without causing the next recession is questionable based on previous rate hike cycles, but interest rates at 2.0-2.25% for an economy that grew 4.2% annualized over the second quarter are still not what we would consider ‘loco’.
Markets are down, UK high streets are struggling, and Brexit chaos continues. Should we be worried? The answer is no.
If you were simply reading headlines this week, you’d be forgiven for thinking the economy is in trouble – in the UK and abroad. Market volatility returned with the S&P at a low not seen in six months and Asia is experiencing a bumpy ride too. Closer to home, the FTSE 100 is hovering below 7000 and Debenhams are closing a third of their stores after announcing colossal losses. Is it time to buckle up and brace? Or is there something else going on?
Debenhams seems to be just the latest in a long line of struggles for UK high street brands. House of Fraser, Toys R US, Maplin’s, Next and Patisserie Valerie have all had problems. Sluggish wage growth, inflation and Brexit have all been blamed. However, a more compelling argument for their issues is the growth of online shopping. We have seen a paradigm shift. It’s simply easier and cheaper to buy products online that are delivered straight to your door. The failure of these chains to react, innovate and evolve enough to take on the competitors has spelt their downfalls rather than fundamental issues limiting people’s spending.
When we analyse market volatility, there are no fundamental reasons for concern. October is often a “down month” and, coupled with the fact volatility has returned in general in 2018 after a benign period, it’s perfectly normal!
Sources: LGT Vestra and 7IM