Response to current market volatility

Special Update

8th February 2018
Response to current market volatility

By Ron Bewley*. Brought to you by Infocus

We can certainly understand why many investors are disturbed by the market volatility over the last few days. After about 18 months of great consistent returns on the S&P 500 with little volatility, January’s return was a massive 5.6%. That’s about an average year’s return in one month!

The reasons for the surge are fairly obvious. Trump got his tax cut through at the end of December – his first major victory. It was not at first entirely clear how much of a boost the tax package would give for the US and global economy so there was a fear of missing out in the investment community. There was a lot of cash on the sidelines needing a home.

The Australian story was quite different. The ASX 200 had an ordinary January because we had no new good news to process.

The S&P 500 corrected quite sharply in the first few days of February but only back to the trend that had been established in 2017. Intra-day volatility rose sharply after an unusually benign year or more.

So why did the ASX 200 also go down if it had not been overpriced? Typically investors sell first and ask questions later. Wall Street sneezed and we caught a cold as the saying goes.

We strongly believe that the rally on Wall Street will continue because analysts are still factoring in the impact of Trump’s tax cuts; a one and a half trillion dollar infrastructure programme is now on the table; and volatility is still at or below average levels – except for the blip over the last few days. Moreover, the IMF just upgraded its global growth forecasts for 2018 and 2019 from 3.7% to 3.9% pa. And the US Senate just voted for a two-year deal on their budget funding pushing those intermittent debt-ceiling debacles back to at least 2020.

With global growth booming and interest rates still low, the only ‘fly in the ointment’ is that the US Fed has only just sworn in a new chair (Jay Powell) and the latest wage inflation data was the strongest in a while. At 2.9% wage inflation is not a problem and there are good reasons why it might be an aberration.

So will rates rise faster in the US than previously expected? Markets were less optimistic than the Fed before Christmas but now the Fed and the market are in agreement that gradual rate hikes will follow.

To bring it all together, Wall Street just had a great ‘company reporting season’ – one of the best in recent history – so US companies are really strong. The global economy is really strong. The Europe economy is also strong and Brexit issues are being dealt with. The China economy growth for 2017 recently beat expectations at 6.9% for 2017.

The Australian economy is not as strong as we would like but it is nowhere near recession.

The recent sell-off was price-driven, not fundamentals-driven.

We firmly believe that this sell-off will be over soon and, by the end of the year we will have enjoyed another strong year of gains. Of course volatility does not usually vanish as quickly as it arrives. There have been some wild swings during the US sessions as investors try to work out a fair pricing for the market.

This recent market performance is a text-book version of an overpriced market correcting. Fundamentals will soon reappear as the main driver of the markets upwards. Long-term investors do not need to worry about when that will start.

*Ron Bewley (PhD,FASSA) – Director, Woodhall Investment Research

Important information

This information is the opinion of Infocus Securities Australia Pty Ltd ABN 47 097 797 049 AFSL and Australian Credit Licence No. 236523 trading as Infocus Financial Advice and Infocus Money Mangement and may contain general advice that does not take into account the investment objectives, financial situation or needs of any person. Before making an investment decision, readers need to consider whether this information is appropriate to their circumstances. Past performance is not a reliable indicator of future performance.