In our last quarterly investment commentary, we mentioned that the “Goldilocks economy” (i.e. not too hot and not too cold) was a great backdrop for investment returns given the accommodative monetary policy and relatively benign inflation. In recent weeks markets seem to have been reacting to the potential threat of higher than anticipated inflation coming through on the back of low unemployment, potentially feeding into wage growth and rising commodity prices. If inflation persists above targets then central banks may have to move to tighten their monetary policy more quickly than previously thought. In reaction to this, bond yields have been rising (the US 10 year treasury is now yielding close to 3%) which will increase companies’ finance costs and will also be detrimental to bond investors. Additionally, these economic concerns have notably fed through into stock markets over the last fortnight.
The recent stock market fluctuations we have seen over the last couple of weeks have reminded investors that equities are one of the most volatile of asset classes. Prior to last week, the S&P 500 in the US had only moved by more than 1% in one day out of the last 100. However, in the last 6 trading sessions we have seen this level of movement (both up and down) in all but one of the days. Market volatility is not necessarily something to be scared of as it creates opportunities for active long-term investors (the type of which we tend to invest within our portfolios).
The UK stock market (like other global markets) has also witnessed similar volatility. Since the peak in the FTSE All Share in late January the market has fallen by 7% in seven trading sessions. In the last 5 years we have only witnessed this magnitude and speed of correction on three occasions. However, it is worth noting that in all instances the subsequent twelve months have registered positive performance.
We have therefore been trying to understand whether the recent market volatility is a healthy correction, after a significant strong run in equities dating back to mid-2016, ahead of markets resuming an upward path, or the start of something more sustained in a negative way. Our thinking currently is that it is the former, with economic fundamentals still strong and monetary policy still accommodative. Yes, markets always try and price the future, but at present we do not see the sort of recessionary signals that would tend to lead us to fear a more protracted and deeper BEAR market for shares. However we will arrive at this more recessionary environment at some stage in the foreseeable future and, of course, things change quickly and we reserve the right to be wrong with our investment outlook and change our views and positioning.
We have tried to reflect this stance for some time within portfolios we manage for clients. A little cautious, but still supporting “risk assets” to hopefully generate a real return as we have successfully done over the last 5 years. At times like this we are constantly appraising our portfolio positioning and composition and talking to fund managers to assess their views and understand their actions. If we feel it is necessary to take action to move portfolios one way or another to our clients benefit we can do this, but always remain mindful of the old adage of “time in the market, not market timing” to deliver the best long-term returns for our clients.