Market Volatility Returns

October saw a burst of market volatility led by political uncertainty ahead of the US mid-term elections, continued trade tension between the US and China and a further spike in bond yields. This drove broad stock market declines as the US joined other markets in showing weakness. As this movement gained momentum we saw investor sentiment sour, especially in the technology sector. In fact, over the past several months the average FANG stock is off more than 20% from their highs!

The decline wasn’t limited to stocks. Other markets like high-yield corporate bonds also took a hit. Although there were significant gains in other areas like sovereign bonds, that wasn’t enough to offset the equity declines. However, we do not believe that the current market sell-off is large enough to influence the longer-term economic outlook.

At this stage we feel that the lasting impact of renewed volatility may appear in the level of risk investors are willing to sustain and we expect to see some investors adjust their portfolios accordingly. In previous pullbacks we have seen a “buy the dip” mentality that helped buoy markets, but investor psychology may shift to a “sell the rallies” mentality going forward.

Business Cycle Persists

In recent months the performance gap between different global markets has been driven by concern about the desynchronization of global growth. Despite recent market moves driven by fear of softening growth momentum in several countries, we believe the underlying story has not changed.

Despite the fears of a broadening trade conflict contributing to the slowdown in Asia and Europe, the US stock market and currency have continued to outperform. Our key measures of US business cycle health still support a continued period of sustained growth. Profitability may be close to a peak, but we think capital expenditures will likely support productivity and sustained growth in earnings – notwithstanding weaker capex data in the preliminary Q3 US GDP report. Resurgent capex would have beneficial impacts globally, not just in the United States.

While fears of a broadening trade conflict are causing a slowdown in Asia and Europe, China’s recent steps to support its economy by lowering bank reserve ratios and promising tax cuts are encouraging. This action could be viewed as affirming the growth divergence as real and worthy of attention. However, if the divergence is no longer in question, focus could turn to “how does it narrow?” Do we expect growth in the United States to fade, or the rest of the world to revive? 

Exercising patience on risk exposure

Our outlook isn’t quite as positive now as it was in 2017 or the early part of 2018, based on our score-card of global growth indicators. Global trade is slowing, but at some point, the markets that have fared worst are likely to catch up.

Given the increased market volatility of the last few weeks, we remain cautious about increasing our risk exposure more broadly. We will wait until we see a stabilization in some of the growth momentum indicators that we are currently following. Though these indicators aren’t providing a clear signal in the near-term. 

Stephen Lingard’s comments, opinions and analyses are for informational purposes only and should not be considered individual investment advice or recommendations to invest in any security or to adopt any investment strategy. Because market and economic conditions are subject to rapid change, comments, opinions and analyses are rendered as of the date of the posting and may change without notice. The material is not intended as a complete analysis of every material fact regarding any country, region, market, industry, investment or strategy.

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