Be careful forecasting particularly when it comes to the future

After the strong finish to what was a good year for equity markets, dominated by subdued volatility, the FANG named group of US tech companies, Donald Trump and Goldilocks. Probably one of the biggest changes to sentiment from the start of the previous year to the start of this is the change in sentiment towards the global economy. It feels almost from the start of the stock market recovery in 2009, there has been an elevated level of scepticism that the recovery in stock prices can be or should be sustained.

For many a year, the view was this was a rally manipulated by the global central banks as they forced savers into the only asset class that offered any income. Valuations were not justified, economists along with the IMF and the World bank remained negative on the prospects for economic growth. All this quantitative easing would finally come home to roost.

The Federal Reserve then stopped QE, concerns were then that the bond market would collapse without the support of the central bank, this would then feed into the equity market. Again, that has not shown to be the case as equities have withstood not only the Federal Reserve’s change in interest rate policy but also the initiative to introduce “quantitative tightening” as it looks to shrink its balance sheet.

We enter this year with central banks of Europe, the UK and the US looking to tighten monetary policy and as yet this has also had limited impact on equity sentiment. Analysts are now forecasting another positive year for equity returns as the optimism of global economic growth, driven by a combination of China continuing to grow circa 6.5%, Europe continuing to recover and the US getting a boost from Trump’s tax reforms. The bears for so long picnicking now appear firmly back in the woods.

Does this mean we have reached the point of euphoria, which strategists and psychologists believe is the moment equity markets roll over? Looking back at the IMF’s economic report back in April 2007, in their opinion, at the time, “the global economy remains on track for continued robust growth in 2007 and 2008. Equity markets remain close to all-time high’s supported by strong earnings growth. The global economy grew at 5.4% in 2006, no wonder investors were optimistic for the year ahead.

The point of this is not to send out warning flares but more to highlight it is very difficult to predict the future and often the time to be concerned is when it feels that there is nothing to be concerned about. There were warning signs in 2007, the IMF refers to some of them, for example, the correction in the US housing market. They just wrongly assumed how serious the position was. Equity markets are forward-looking and rise when they believe we have not reached the peak of the “good news”, the problem comes when that view changes.

Posted on January 2, 2018 .