The Lowdown on Markets to 20th March 2015
- Global equity markets rally on the dovish remarks from the US Federal Reserve Bank.
- The FTSE 100 Index finally pushes through the magical 7,000 barrier on positive sentiment.
- Likewise European bourses move higher and Japan’s Nikkei hits a new 15 year peak.
- In the UK the chancellor George Osborne delivers his final budget before the Election.
- The rise in the US dollar is halted by the comments from the Fed whilst the gold price rallies.
- The equity market rally continues but are we “between a rock and a hard place”?
What does this mean for the markets and asset classes?
“Global equity markets strengthen on the back of the Fed’s comments”
Global equity markets revelled in another week of bullishness on the back of some dovish remarks made by Federal Reserve Bank chair, Janet Yellen. As expected the Fed dropped its previous remark of being “patient” over when interest rates would normalise in favour of saying that “export growth had weakened”, cutting its forecasts for growth and inflation, lowering its projected path for rate rises, and then referring to the point that the US dollar had significantly appreciated against a basket of currencies since last summer, and that this had weighed heavily on the US economy.
This strategy by the Fed to comment on a certain asset class from time to time is unusual, given that it is manipulative to markets, indeed, back in 2014 a Yellen led Fed made a bizarre remark on the biotechnology sector saying “valuation metrics in some sectors do appear substantially stretched – particularly those for smaller firms in the social media and biotechnology industries”. This was met by some analysts as rather extraordinary given that the FOMC is charged under United States law to oversee the nation’s open market operations rather than direct comments on selective market constituents.
Clearly, markets react to such comments from senior officials and this was the case last week when we saw a huge level of dollar market volatility, particularly against the euro, after the Fed’s remark. Perhaps this is a further indication that central bank policy might not be just about important issues such as economic growth, or unemployment, but commenting on bubbles that might occur whether it is in foreign exchange, or indeed, a specific sector, which in turn, leads to some indecisiveness in the direction of that asset class.
Unquestionably, a surging US dollar has triggered some uneasiness at the Fed and amongst equity investors, as many of the multi-national companies have recently revealed lower profits from their foreign operations, and of course, a stronger dollar, and higher US interest rates, has very important consequences for regions such as the emerging markets, gold and base metals. Regrettably, this US economic recovery seems to have been built on “cheap money” and I’m afraid that those days are slowly coming to an end; therefore, the only question is, when and if, the Fed begins to raise Interest rates “what are the ramifications for other regions and asset classes”.
Furthermore, given that the US economic recovery is far more advanced than the rest of the world, and the likelihood of interest rates hikes in regions such as the Eurozone and Japan are very distant, it is likely that the euro and yen will weaken further against the dollar, particularly, when you take into account their present-day loose monetary policies, and quantitative easing programmes. With this scenario it seems unlikely that the Fed can normalise interest rates without creating a stronger currency, unless of course their new action will be through some thought-provoking words.
Understandably, there are concerns about an extended bull market rally in the dollar given what has happened in the past. Clearly, a very strong dollar, over long periods, tends to have a habit of ending quite nastily and what the global economy does need at this delicate time is another financial crisis, we are not strong enough to tolerate such an event, and in the Fed’s defence, I think that they have become more aware of outside forces that could scuttle the global economic recovery, hence, the possible delay in raising US interest rates.
Certainly, the euphoria from the Fed’s statement has finally pushed the FTSE 100 Index through the magical 7,000 barrier that has eluded us for some time; indeed, it has taken us 15 years to breach the highs of 1999 and subsequently move on to its current level. This euphoria also saw the S&P 500 Index near its all-time high whilst the FTSE Eurofirst 300 Index registered its highest level since 2007 with Germany’s Xetra Dax reclaiming its 12,000mark. Likewise, in Asia we saw the Japanese Nikkei 225 Index hit a fresh 15-year peak and its sixth successive week of advancements.
Arguably, there were a number of forces at work pushing the stock markets higher, the Fed’s slightly surprising comments which weakened the dollar, the rally in the prices of gold and crude oil, and the ECB’s second week of quantitative easing. Also we saw the Greek’s agree to hasten their economic reform plans, whilst in the UK, the chancellor; George Osborne delivered his final budget before the General Election.
In terms of the latter, the key points of the budget were:
- A New help to Buy ISA will be introduced with the government providing a £50 bonus for every £200 of monthly savings up to a maximum of £3,000 on £12,000 of savings. The aim is to start the scheme from autumn 2015.
- In another reform to the ISA regime, investors will be able to withdraw money from their cash ISA’s and replace it in the same tax year without it counting towards their annual subscription limit. The intention is that this too will be introduced this autumn.
- There will be a cut on the pension lifetime allowance to £1 million from April 2016, together with another set of transitional protection rules.
- The personal allowance will increase to £10,800 in 2016/17 and £11,000 in the following year.
- The higher rate threshold will rise to £42,000 in 2016/17 and £43,000 in 2017/18, the first above-inflation increases in the threshold for seven years.
- The government proposes to abolish self-employed Class 2 national insurance contributions sometime in the next parliament.
- Self-employed farmers will be able to average their profits over five years instead of just two from April 2016.
- Charities will be pleased by the proposed increase in the Gift Aid Small Donation maximum amount from £5,000 to £8,000 from April 2016.
Clearly, the equity bull market is gaining further momentum suggesting that professional investors and strategists are not expecting a US interest rate hike much before the autumn, or even the early part of 2016. Indeed recent comments by Fed chair, Janet Yellen, and current yields on US Treasuries seems to support that notion. However, global investors are likely to feel that as we go through the coming months they might be between a “rock and a hard place” given that some members of the Federal Reserve Bank committed seem unassured on the current stance for interest rates.
Arguably, any whiff of an earlier interest rate hike, or a stronger dollar, could lead to a meaningful pull-back in the markets, especially if the US unemployment rate, or better-than-expected economic data, feeds through over the coming months, which could push the Fed to act earlier than perhaps the market is currently expecting.
Peter Lowman Chief Investment Officer
Peter Lowman has been in investment management for over forty years and prior to becoming Chief Investment Officer for Investment Quorum he worked within larger asset managers, primarily as an Investment Director within Cazenove’s. He is responsible for the overall investment strategy for Investment Quorum clients and sits on the Investment Quorum Investment Committee.
This article does not constitute specific advice and investors should bear in mind that capital invested is not guaranteed.
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