Market Update – August 2014

In our August note, we want to give you an insight into how we see the current markets and their outlook, especially as sentiment appears weak in the short term and volatility is increasing.

There is now a lot of caution in markets, not without cause, given what is happening in Ukraine and the Middle East. There is no doubt the economy in both the USA and here in the UK have improved a lot from 12-18 months ago, yet the UK index is now lower than at the start of the year.

You will see from the chart below of the FTSE 100 that the market experienced quite a sharp sell off in February and currently is not much above that.

FTSE 100 Chart

There is a General Election next year in the UK, with the outcome far from certain and interest rates will start to rise gently. So in the summer period when the markets are going through a weaker phase what would make us still positive and invested in equity markets?

Let’s start with the USA which will always influence most other markets…

You will see that the market is quite a different picture to that of the UK market (see S&P chart below). When there have been dips, the market has recovered. You will see from the quite sharp sell off which occurred in February that the market soon recovered.

It would have been easy to become too negative in the short term in February, yet it would have been wrong to exit equity markets then and we think that is true now. We have not held more here because the strength of Sterling was taking away returns from the market.

Historically the USA market rallies into the year end and we have no reason to think against a very slowly recovering economy, that this year will be any different.

We also think the prospects are improving in the Pacific Markets and we have recently changed our allocation to these markets.

S&P 500 Chart

It’s been a very difficult year for all managers, but of all the equity managers we meet in the course of our research process, there are none who are really negative. They believe stock pickers will do well longer term and there is still value in the market. There is also a pickup in takeover activity which does indicate trade buyers are seeing value.

We do a lot of analysis in-house on a very short term basis and that is still indicating that we can expect to see higher prices, it’s just difficult to tell exactly when.

You will also start to read and hear more about interest rates rising and Quantitative Easing (QE) ending or being reduced and we would have two comments on this.

Rates are not going to rise quickly but the timing of the first quarter point is now much closer, maybe as soon as November this year. It will not make much difference to the economy but will be symbolic that the ultra-low rate environment is coming to an end. It will take several years to get back to the long term norm of around 3%.

And the ending of QE may also be seen as a short term negative, which in our opinion it shouldn’t be. It is a sign that the world economy is back to a level where it does not need so much support from the central banks. It was a massive experiment, which has not been tried before and it appears so far to have helped the economy recover from the shock in 2008/9, when Lehman bros and many other banks became insolvent.

Against the background of rising rates, fixed interest markets which have been very strong, may struggle to make progress from here which would also mean investors will reduce their exposure to this asset class. The natural home for that will be higher yielding shares.

Therefore, in summary, although markets have had a very difficult year so far we still think this shall pass and markets will recover. We do however, continue to analyse the markets for long term sell signals, which at the moment are not in place. We think this is a time to be patient and wait for this period to pass.

If you have any questions please give us a call.