Global equities markets have caught a dose of the autumn blues and there are real economic worries behind the sentiment but also notes of optimism thanks mainly to a strong US economy.
Since early September, most equities markets have slipped significantly. From 5 September to 13 October, the German DAX 30 index fell 10.1%, the French CAC 40 fell 9.4%, the MSCI Emerging Markets index fell 7.9%, the FTSE 100 fell 7.1%, and the S&P 500 fell 4.9%.
These figures indicate the epicentre: Germany is suffering an economic slump. Its exporters are struggling, emerging markets are buying less and its government has so far shunned a stimulus programme.
The end of quantitative easing (QE), downgrades in world economic forecasts, slowing emerging market growth, a reaction in Japan to the higher sales tax, conflict in the Middle East and Ukraine, and the Ebola crisis have all made things worse. Energy stocks have been especially weak, and the oil price has slumped 20% since June.
On the positive side, the effects of the European Central Bank’s stimulus measures have not yet been fully seen, and the US economy is strong. Equities are cheap compared to bonds. October is seasonally a weak month anyway, and on average equities tend to pick up later in the year.
Bulls are hoping the wobble is just a case of the autumn blues, and that the company earnings results season will encourage a bounce back.
The International Monetary Fund (IMF) cut its forecast for global growth to 3.8% for 2015, having said 4% in July. However, this is still higher than the forecast for 2014, which is 3.3%. ‘There is a very real risk that the world could get stuck for some time with a new mediocre level of growth,’ said IMF managing director Christine Lagarde.
There are fears of recession in Europe. German exports fell 5.8% in August, and eurozone industrial production was down 1.8%.
The Vix index, the fear index that measures S&P 500 volatility, has more than doubled from 12 at the beginning of September to 25 last week.
But this is still below the 43 it reached in September 2011 during the eurozone crisis, and 60 in October 2008 during the credit crunch. The autumn 2014 wobble is no wipeout.
The exit from QE is proving bumpy. Markets have relied on the comfort blanket and now it is being taken away.
The S&P 500 has fallen through its 200-day moving average, a measure of psychological importance. The extreme bear case is that equities have reached a top similar to December 1999 or October 2007.
Jim Reid, strategist at Deutsche Bank, says the seasonal average since 1928 is for the S&P 500 to rise until the summer, correct in September and October, before bouncing back toward the end of the year. But this does not happen every year.
Even though equities have become more expensive in recent years, they are still good value against bonds if you compare dividend yields with bond yields. However bond yields have been artificially repressed.
The US may be the safest equity market at the moment but it is also one of the most expensive. Russia is the cheapest. China is cheap.
Some of the selling may be an overreaction: airlines have been aggressively sold off on ebola fears, for example.
Equity markets need sustained, quality growth in corporate earnings now that the artificial pump of QE is being removed.
QE has allowed large corporates to raise debt cheaply. However, instead of investing in research or new projects, too many executives have chosen to boost their own share prices by indulging in share buy-backs.
Stagnation coupled with artificially high equities is not an attractive scenario, and adds to fragility.
Markets have been nervous but this is not, so far, a crash. Neither is it simply a technical dip to blithely buy upon, as the falls have been in response to the latest economic data, especially from Europe.
US large caps are the best defensive play within equities, whereas Europe and Asia offer good value.
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