THE past few days have seen global stock indices looking like they’ve found a fair value, as they consolidate following some volatile trading sessions. But there are other big questions on investors’ minds. Who is in control of proceedings within the market – is it the bulls or the bears? Has this correction got further to go? Or are we just beginning the next move higher?
In order to try and predict what might happen in the future, you need to look to the past. We know that the recent bond and equity market rally has been fuelled by unprecedented monetary stimulus from central banks. With all the interest in the potential for tapering by the US Federal Reserve, it comes as little surprise to see both bond and equity markets take a tumble. Even the most reverent of bulls will tell you that stock prices had got a little high a little too quickly.
Now that the dust has settled, however, there’s still a great deal of bullishness out there, and many investors have been waiting most of the year for an entry level to get long. The last few recovery sessions have indicated that, as many argue, the longer-term prospects for stocks are still bright.
An interesting argument for the equity market rally to continue is the prospect of there being an end to the so-called commodity supercycle. Years of a weakening dollar have produced a commodity boom. But now, with all this talk of tapering, investors are starting to see the possibility of interest rate hikes from the Federal Reserve – allowing the US dollar to recover at the expense of commodities. Certainly, if the dollar’s recovery continues, the outlook for higher commodity prices doesn’t look quite so bright, which should be to the benefit of the wider economy. Lower commodity prices will definitely be welcome from those hoping to see high inflation come back down, especially after yesterday’s surprise jump in UK consumer price index inflation to 2.7 per cent, and the move in the retail price index to 3.1 per cent.
It’s this wider optimism regarding the outlook for corporate profits, as economies reap the rewards from prolonged monetary stimulus, underpinning the view that stock markets could continue higher in the months ahead.
But there are still many who believe that there’s more of the shakeout to come, and that western economies simply won’t be able to cope on their own once they are taken off monetary life support. The economic data has hardly surprised to the upside, especially when you look across the Channel to the continent. When the eventual rise in central bank base rates does come, it could stifle what growth there may be at that time, especially if the rate rises come too soon. Despite a considerable reduction in debt by both consumers and businesses, there’s still a staggering mountain that will hurt when the rate hikes come. That may be some way off yet, but the prospect is itself enough to send investors running for cover.
Angus Campbell is head of market analysis at Capital Spreads. You can follow him on Twitter @angusjmcampbell
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