Equity markets remain in a state of flux, both the FTSE 100 and the S&P 500 have pulled back from all time highs, and now appear to be pausing before deciding what direction they head in next. Likewise the Dax index of leading German stocks has pulled back about 7% from its highs, led by the recent rout in the German bunds. The move in German 10 year yields from 0.05% to 0.68% is a dramatic one, but if history is anything to go by the Dax yielding nearer 3% should still offer greater rewards over that time period. The broader Stoxx 600 index has fallen just under 5%.
The ebb and flow of capital market sentiment appears to be ever changing in this modern world of generous liquidity. Sentiment currently appears cautious, we have commented on the recent outflows of capital from equity markets by investors.
The Greek tragedy appears no closer to being resolved; on the face of it Greece's fate should not impact the euro area to a significant degree. The banking system has reduced its exposure significantly, Greece is but 2% of the euro area Gross National Income and yet it constantly plays on market sentiment.
What is bad news one day is considered good the next; the falling oil price was initially seen as a window on the weakness of global economy, as the price recovers it might be considered a brake on global growth.
The recent weakness in US economic data, Wednesday's disappointing retail sales being an example, has given cause for concern. Rising bond yields has taken the blame for the recent weakness in equity prices; traditionally rising yields are a positive for equity prices as it demonstrates an improving economy. In the short term investors appear to focus on the view that rising yields reduces the attractiveness of equity prices on a relative earnings yield valuation.
Equity prices are not as cheap as they were, but are not considered in bubble territory. Companies through a combination of cheaper input costs, developments in modern technology, and limiting wage growth have helped to maintain margins in a weak revenue growth environment.
Equity and bond investors remain nervous, as both asset classes have made good gains over the past few years. Cheap money, moderate real global growth, margins remaining robust in a low inflationary environment, all elements to favour equities. Along side this is the expectation that the US economy will recover in the second half after the particularly weak first quarter.
Those investors who have taken money off the table may get twitchy if the market correction does not continue. Taking money off the table feels like one is going with the herd, money flows and equity markets have diverged, one will change direction.