Don't pack up your portfolios yet, Christmas has come early

 
Carolin Roth
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With 41 days to go, it seems Christmas has come early this year for many investors. The returns in 2017, at least for equity investors, are staggering.

The DAX, a blue chip index consisting of the 30 major German companies, is higher by some 16 per cent since the start of the year.

The S&P 500 has rallied 15 per cent, with both markets hitting record after record. And previously unloved emerging markets like Brazil have spiked 20 per cent.

Driving this is what many call a “sweet spot” for investors: a backdrop of solid growth, low inflation, strong corporate earnings, and continuously supportive monetary policy from central banks – despite efforts to gradually tighten stimulus.

On top of that, we are still expecting President Donald Trump’s tax reform to be passed before the end of the year, which could give another fillip to risky assets, when eventually approved.

As the end of 2017 nears, the question presents itself: is it time to pack up your portfolio for the year and take the profits, or do you chase the rally further?

According to Larry Hatheway, chief economist at investment house GAM, the impressive gains might be here to stay.

In a letter last week, the strategist wrote: “the biggest risk to investors over the remainder of 2017 is an upside melt-up in equity markets.

“Having made very strong advances in 2017, some regard equity markets and valuations as stretched.

“However, momentum is a clear driver in the short run for all markets, including for equities, and there is a sense that we may see a further surge in equities in the final quarter, which many investors may not be prepared for.”

The warning from GAM doesn’t get much clearer than this – the good times in equities aren’t over yet.

And that trend does not seem to be stopping soon, despite the gradual move higher in interest rates, which have historically dampened equity returns — at least, according to Yianos Kontopoulos, global head of macro strategy at UBS.

In the bank’s 2018 outlook, he wrote: “2017 is a key example of how yields can rise modestly, P/Es (price earnings multiples) can moderate, and equities deliver strong returns at the same time.

“As long as it is driven by growth, while inflation does not rise too sharply, we believe it is sustainable.”

Evidently, the common worry that most analysts share is inflation.

This has been the missing ingredient in the upturn, as inflation levels have been stubbornly low across developed markets, confusing policymakers and investors alike.

While the risk of a sudden surge in inflation is low, according to UBS, it might be non-growth related factors, such a spike in oil prices, that could ultimately catapult it higher.

It might be a big ask for investors to look past the threat of inflation, and other regularly cited worries — such as high valuations and record low volatility, which are often seen as a sign of investor complacency. Not to mention geopolitical events, such as North Korea.

But just like the all-too-familiar “don’t fight the Fed” warning, it might just be best to follow the equally familiar “the trend is your friend” mantra.

In that case, that Christmas tipple might just taste a little sweeter.

City A.M.'s opinion pages are a place for thought-provoking views and debate. These views are not necessarily shared by City A.M.

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