The risks and rewards to equity markets clearly demonstrated

The perils of equity markets have been brought home to the UK investor in the past week. Aside from the sad tale of Carillion, Dignity, a company that profits from of the two certainties in life, death (according to Benjamin Franklyn) saw 50% wiped of its share price in one foul swoop. The plight of the UK retailer was also in focus as Carpetright saw its market capitalisation also halved after an earnings report that missed market estimates by some margin. The correction is brutal and instant with no time to react. What is surprising with Dignity’s example is the trends for pricing seems to have been under downward pressure for a while, yet analysts failed to pick up on this point. The overnight results from Netflix demonstrate why investors continue to chase the technology sector. Netflix shares rose almost 10% in afterhours trading as subscriber growth beat analyst expectations.

Davos is currently in full swing. It would appear, from the warmer climes of the UK at least, that there is a lot of back slapping taking place as central bankers and company chairmen feel full of optimism for the year ahead. Christine Lagarde speaking in Davos was quoted “all signs point to a further strengthening in global growth both this year and the next”. Even Greece appears to be emerging from many of its woes, as the yield on the two-year Greek bonds fell below that of the equivalent US bond.

The S&P 500 continues to creep higher ignoring the now resolved, (at least in the short term) government shutdown. So, in theory it should, as the key building blocks for equities to rally appear to remain in place. The S&P 500 has now risen for 395 days without a 5% correction. The last time this occurred was in 1996 and the equity market had another good couple of years in it before the Asian crisis and the Long-Term Capital disaster brought equity prices to a crashing halt. Both events that no-one predicted.

The latest German ZEW survey was released on Tuesday. This survey amalgamates the views of 350 analysts and economists regarding the economic future for the German economy for the next 6 months. As you can see from the graph courtesy of the Financial Times, another good example how analysts are great at getting the most bullish at the top and the gloomiest at the bottom. The peaks are 2007, and now, the troughs 2003 and 2008. Tomorrow the ECB meet for the first time this year, economists and journalists will be looking for signs if the ECB will respond further to the current optimism.

Posted on January 23, 2018 .