Investors’ Sentiment gets a Boost – what has changed on the turn of the year? – By Gabriel Mansueto
In a span of a two-month period, global equities moved from the worst December since the Great Depression, to the best January in 30 years. Investors’ sentiment turned positive with the turn of the year, following a torrid 2018. In summary, the case for equities in 2018 was dominated by – trade talks between China and the US, political instability in Europe, geopolitical tensions globally, risks of rising inflation, and higher interest rates. In addition, recessionary fears from a policy mistake from one of the major central banks, weighted heavily on investors’ sentiment. Market volatility, as measured by the VIX index, returned to life as global equities sold off, following a good start to the year.
In the bond market, as volatility spiked, investors fled the riskiest assets within fixed-income and sought shelter in high-quality sovereign debt. Yet yields were pretty volatile too. A case in point is the 10-year German Bund, where its yield moved higher (bond price lower) towards the end of 2017, as fears of higher inflation and talks of some form of monetary tightening in Europe, sparked a sell-off in high-quality sovereigns. In fact, the move was pretty significant, as the yield moved from 0.3% on December 10, 2017 (a 5-month low) to 0.76% at the end of January 2018 (a 30-month high). That is, demand for quality sovereign bonds declined heavily on expectations of higher inflation. However, with volatile equity markets, demand for safe assets increased and as a result the yield on the 10-year German Bund declined (bond price higher) from a yearly high of 0.76% to 0.19% at the end of December of last year.
Today, markets are pricing a very different picture. The outlook on fixed-income assets and bonds do not seem too gloomy as investors were pricing in December. In fact, in a previous article, we wrote about our positive outlook for fixed income assets for 2019, given the fact that economic growth is expected to slow down, and inflation pressures are somewhat muted. Hence the risks from tighter monetary policies have definitely reduced.
So what has changed? The significant switch in market sentiment can be attributed to the FED’s tone of language during last week’s January meeting, compared to December. During the FED’s last meeting for 2018, as was expected, interest rates in the US moved higher for the fourth time last year to a range of 2.25% to 2.50%. In the press conference following that meeting, FED chairman Jerome Powell was more upbeat on growth and inflation, justifying the central bank’s decision for higher rates. Investors interpreted that as an indication of further tightening going into 2019, and as a result markets declined sharply.
In January, with a change in FED’s language, where Mr Powell was less upbeat and cognisant of slowing growth, financials markets reacted positively. It is evident most equity and bond investors do not like an environment where monetary policy is being tightened. Following the January meeting, market expectations on higher rates in 2019 have tumbled, and some market players now expect no more than one interest rate hike. This is quite a change compared to a few months ago, where expectations were of at least two rate hikes.
It is clear that with investors’ expectations changed investors’ sentiment, from a gloomy one in December to a stellar January. In the US, the S&P500 and the Nasdaq gained 8% and 10% respectively. In Europe, the Euro Stoxx 50 jumped by 5.3%, and in London the FTSE 100 gained 6.6%, following a 5% decline in December. An index of Emerging Markets gained nearly 9%, compared to a 4% loss in December.
We believe that both equities and bonds will perform well in an environment where monetary policy is not being tightened. Yet, we do not see markets grinding higher month-on-month. We believe that panic selling dominated markets in December, and that those declined were not justifiable. However, we are mindful of risks and our aim is to take a cautious-to-balanced stance for the short-to-medium term.
The fact that global growth is expected to slow this year and next, is one risk investors have to keep in mind. Slower growth is likely to be followed by slower corporate profits. In addition, risks in Europe remain and the rise of populist parties may create further tensions among member countries and Brussels. We cannot fail to make reference to Brexit, which has dominated headlines for the past 30 months, and the US-China trade war.
The way markets performed over the past two months reminded us of the first years following the financial crisis where bad news seemed to be good news for asset values. This has clearly been the case late in December, when FED members started changing their language on economic growth, and in January. This has also been a reminder why equities are considered the riskiest assets and sharp movements are possible, and we should expect them to become more frequent. On the other hand, bonds generally moved less aggressively. In addition, some of which moved oppositely to moves in equities. The case for asset class diversification is getting stronger.
This article was prepared by Gabriel Mansueto, Branch Manager and Senior Investment Advisor at Jesmond Mizzi Financial Advisors Limited. This article does not intend to give investment advice and the contents therein should not be construed as such. The Company is licensed to conduct investment services by the MFSA and is a Member of the Malta Stock Exchange and a member of the Atlas Group. The directors or related parties, including the company, and their clients are likely to have an interest in securities mentioned in this article. Investors should remember that past performance is no guide to future performance and that the value of investments may go down as well as up. For further information contact Jesmond Mizzi Financial Advisors Limited of 67, Level 3, South Street, Valletta, on Tel: 2122 4410, or email [email protected]