'Investment clock' shows gains for equities
by Trevor Greetham
Tue 14 Jun 2016
The sharp sell-off of equities at the start of the year was followed by an abrupt rebound as policy makers adjusted to an easier monetary policy path. What next after the V-shaped rebound? Every time America thinks the world is strong enough to cope with a rise in the Fed Funds rate, China lets the steam out by devaluing its currency. With global manufacturing confidence at a low ebb this provokes a very negative reaction in financial markets. We may now be breaking out of this pattern. The last few weeks have seen evidence of a recovery in global growth. Business surveys have improved markedly in the US, while a broad range of data in China suggest the stimulus applied after the stock market crash of 2015 is taking effect. The dollar may rebound as the market prices US Federal Reserve rate hikes back in, especially as on the other side of the ledger the Bank of Japan and European Central Bank are still in easing mode. The pick-up in global growth against a low inflation backdrop puts the investment cycle in the equity-friendly ‘recovery’ phase of the Investment Clock (see main chart), a model-based framework linking asset returns to different phases of the global business cycle (see chart below).
Stocks are generally volatile over the summer months as trading volumes dry up and fundamental analysts struggle to distinguish a seasonal drop in business activity from a weakening trend. Stocks may also correct in response to a range of risk factors including concerns surrounding the UK Brexit vote. The underlying recovery in low-inflation growth however means that a dip, if markets follow their usual seasonal patterns, would provide a good opportunity to buy equities.
The Chinese money supply is growing at its fastest pace since July 2010, there is better data coming out of the US, the global unemployment rate continues to fall and inflation is low. Europe and Japan in particular should benefit from a dollar rebound, having recently underperformed due to dollar weakness. Emerging markets could underperform if dollar strength leads to a pull-back in commodity prices. However, with the prospects of a synchronised upswing in global growth, emerging market performance could improve.
Trevor Greetham is head of multi asset, Royal London Asset Management