Prepare for Stock Market Volatility

Stock markets have rallied significantly - but this doesn't necessarily mean that investors should prepare for a correction. Volatility however, should be expected

Emma Wall 9 July, 2014 | 5:00PM
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Developed market equity markets have rallied, delivering considerable profits to investors over the past five years. Last year US markets gained 30% - since the global recession the S&P 500 has more than doubled. The FTSE 100 hasn’t quite matched this trajectory – but both UK and European stock markets have made gains.

It is these bull markets that have investors worried. Speaking at the JP Morgan Global Economic Outlook this morning, Mike Parsons, head of UK Field Sales, said that despite positive corporate and economic indicators – falling inflation, profitable companies – investors were sceptical of equity markets, and US companies in particular.

“Clients are not bullish about equities, they are expecting a correction,” he said. “In my experience when everyone is preparing for equity markets to go one way – they usually go the other.”

That is not to say that equities are cheap – but they are not expensive either. According to forward P/E valuations equities still look like the most attractive asset class.

Andrew Goldberg global market strategist for JPM compared the price of equities now compared to valuations just before the dotcom bubble burst.

“If you use valuations as an indicator for whether to buy or sell an asset, in 1999 you should have sold equities, and in 2007 you should have snapped them up. Of course valuations do not tell the whole story – they do not take into consideration the housing bubble or the credit bubble – but they are a simple way to determine asset allocation, and right now risk assets relative to safe haven assets such as fixed income, are attractive,” he said.

Investors will have to be prepared for great volatility than they have been experiencing up until this point however. One key event – that could be right around the corner – sure to momentarily derail stock markets is the rising of interest rates.

Both the Federal Reserve and the Bank of England laid out prescriptive plans on when interest rates would be raised dependent on jobs figures and inflation. Both the US and the UK economies passed the thresholds in considerably less time than the economists predicted – unemployment fell at least two years quicker than expected on both sides of the pond, and inflation has not been this low in the UK since October 2009.

Goldberg said that the Fed and the Bank of England were too dovish in their policies keeping rates so low – and that they could not afford to continue to do so for much longer.

“Both the Fed and the Bank put in place thresholds that were reached two to three years early. These economies have normalised,” he said.

JPMorgan Multi-Asset Income Fund manager Talib Sheikh said that when rates do rise the markets were bound to “freak out”, but this was all part of the recovery process.

“Much like the reaction we saw in global markets when Ben Bernanke first mentioned the tapering of QE, stock markets will come to accept the inevitable and recognise it as a positive sign. Once companies then back up this with capital expenditure it will be good for both profitability and the economy.”

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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About Author

Emma Wall  is former Senior International Editor for Morningstar