Fund manager surveys indicate that trade wars are their concern to the main threat for equity prices. In our opinion the theme of what the Fed might do next with interest rates will have more influence than any single other factor on the direction for equity indexes. Since December the market has gone from pricing in two rate hikes this year to the possibility that the next move may be a cut. After a miserable December, this change of tone led to one of the best January’s on record for equity indexes. Oxford Economics provides evidence that when the Fed cuts, equity prices historically go up. In contrast, eventually the Fed continuing to raise interest rates almost certainly leads to an economic recession.
The Fed may have now got itself in a tricky position, as it still expects its measure of core inflation to rise above its 2% target. As Wall Street has its best day in a month, if the Federal Reserve begin to feel they have led the market too far down the dovish path, any change of tack at the next meeting could hit equity sentiment hard.
Since 2008 there have been many tricky years to test investor sentiment. Looking back, the overriding theme has been the central banks ability to prevent recessionary pressures through monetary stimulus. Trade wars may be the number fear, and should they escalate, this may well be correct. There is good evidence improvements in trade have helped stimulate economic growth over the past twenty or thirty years. Any reversal of that theme, and one could include Brexit in that move, could hit economic growth. However, the actions of central banks, particularly that of the Federal Reserve, must be above trade fears. Equities have rallied in the first few weeks of the year to a more dovish Fed despite no resolution to the trade spat between America and China and Brexit remaining unresolved
Not sure where commodity price movements sit in place of investor fears whoever prices will play an important part to help keep inflation in check. Particularly the price of oil. Any spike in oil prices that increase inflationary pressures as well as hit growth will not be helpful to the Fed.
UK GDP data, published on Monday, reported that the UK economy grew just 0.2% in the final quarter of last year. On the back of this report, the Bank of England cut growth expectations for this year to 1.2% and 1.5% for the next year. This may have been a weak number but no less than expectations. The pound fell and helped UK equities to a rally on Monday.
Interesting article in the Wall Street Journal on Tuesday, titled Incredible Shrinking Europe. The conclusion, the united European dream has been an economic failure.