Hopefully not a repeat of 1997

I think most equity investors will be glad to see the back of January. Some believe the month of January sets the equity market tone for the year; others believe just the first five days. Personally, I don’t believe January’s performance has any relevance on the outcome for the year. 2010 started in a similar manner for equity markets as 2014, that year the FTSE 100 finished up roughly 10%.

The S&P 500 has fallen 3.6% this year so far, fairing slightly better than the ALL-World index falling 4.1%. The FTSE 100 fell in line with the S&P 500 down 3.7%. I wrote in my start of year review that equity markets were vulnerable to any shocks, due to the overwhelmingly bullish sentiment at the start of the year, and so it was proved. 

Comparisons are being drawn between today’s emerging market worries and the Far Eastern crisis of 1997. This week’s Economist addresses these concerns with the headlines, “Don’t Panic”. 1997, they point out, started with problems in Thailand and morphed into a general crisis. The Economist goes on to point out that optimists that include the IMF, argue that emerging markets are less vulnerable than 1997. They have flexible exchange rates, higher reserves and smaller current account deficits this time around. Their debts are lower and more likely to be denominated in domestic currency. 

The Economist goes on to mention that hedge funds argue most emerging market assets are less attractive with higher rates in the US and lower growth in China. That is undeniably true, but it’s probably a case of the hedge fund traders trying to do what’s known in the trade as talking their own book. I can only hope that this is the case; therefore any signs of a stabilising of emerging markets will leave them needing to cover short positions.

This week equities may start on a firmer note; the official China PMI data for January edged down to 50.5, but unlike the unofficial HSBC report earlier in the week, it did remain above the psychologically important 50 mark. Later in the week we get the China services PMI data. 

The week ahead will continue to be dominated by earnings, with heavy weights in the UK, GSK, Vodafone and BP reporting. On the macro side the important date this week is Thursday. The Bank of England and the ECB will announce rate decisions. I can’t imagine any change by the Bank of England. 

What has an outside chance is the ECB cut rates again. I have often argued in this blog, the point at which the Fed starts tapering may well be the point at which the ECB starts to expand its balance sheet. In the past week we have had unemployment in the Eurozone confirmed above 12%, and inflation data from Germany that came in below expectations. If Germany's economy is suffering no real signs of inflation with unemployment at close to 5%, that would raise concerns, once again, that deflationary pressures are rising within the rest of the Eurozone. 

Looking ahead to February and taking a quick look at the AAII investor sentiment data from Thursday, the percentage of bulls is the lowest it has been since August last year. That has to be another good sign.

Posted on February 3, 2014 .