TIME TO TAKE COVER? WHAT WE CAN LEARN FROM THE MARCH QUARTER
Mark Lister, 5 April 2018
It was a very eventful quarter for global financial markets, and a particularly volatile one for investors.
The year started with a bang.
The S&P 500 in the US posted a 5.6 per cent rise in January, which was the strongest start to a year since 1997. That took the S&P 500 to 15 consecutive monthly gains (on a total return basis), equalling the record streak from 1958/59.
However, in late January inflation expectations rose on the back of stronger than expected wage growth in the US. This caused a spike in bond yields as investors began to speculate we would see more aggressive monetary policy tightening from the US central bank; the Federal Reserve.
The US 10-year Treasury yield rose during the quarter, hitting a four-year high of 2.95 per cent at one point. The two-year Treasury yield (which is more sensitive to what the Fed is doing) also increased, hitting the highest levels since 2008 during March.
Those increases in interest rates saw share markets sold off, with the S&P 500 down 10.2 per cent at its lowest, relative to the record high in late January. Consequently, February became the first negative month for US shares since October 2016.
Trump tariff announcements triggered return of volatility.
Markets rebounded from these lows, although volatility soon returned as President Trump announced a number of tariffs on imports into the US. This led to retaliatory talk from other regions, including Europe and China, stoking fears of a trade war that could dent global growth. In addition, we saw the high-flying tech sector sold off late in the quarter, as speculation of increasing regulation around the sector saw sentiment turn sharply negative.
Despite all that volatility, US shares ended up down just 1.2 per cent for the three months to the end of March. This was only a small decline considering the strength we have seen in recent times, but it was still the first negative quarter for US shares since September 2015.
The local share market held up well during the quarter.
While it fell 0.9 per cent (the first quarterly decline since December 2016), that was a far more modest decline than most of its global peers. While the S&P 500 in the US was down more than 10 per cent from its January peak at its lowest ebb, the NZX 50 was just 4.7 per cent lower at the worst point.
There are many reasons for investors to be nervous at present.
Valuations are high, markets have had an exceptional run and monetary policy tightening has started in some parts of the world. Geopolitical risks are growing, with ongoing concerns in Europe as well as rising tensions between the US and China.
The equity bull market is in its ninth year, and is only a few months away from being the longest ever in the post-war period. However, economic fundamentals still look sound in most parts of the world. None of the usual indicators point to a recession on the horizon for any of the major economies.
While that is comforting, we are still advocating a more defensive slant in portfolios. Markets could suffer simply due to stretched valuations and the recent volatility should serve as a wakeup call for some investors. We suggest those with high weightings to growth assets begin moving back toward a neutral positioning, relative to their target asset allocation.