Markets around the world are surging as investors ride on the coat-tails of a buoyant Wall Street which continues to hit new records, notching up four consecutive weeks of gains. The S&P 500 index posted a new all-time high last night, alongside the Dow and Nasdaq. It’s the first time since July that US markets have posted this triple high.
Investors are embracing risk again as they focus on a happy combination of good news in recent days. And, as ever, the rest of the world’s markets are picking up on the US’s bullish tone.
The first positive in the past week was last Wednesday’s interest rate cut from the Federal Reserve, the third since July. That confirmed that last year’s tightening bias at the US central bank is now over. Although the Fed indicated that further rate cuts will be data dependent, after what it clearly views as a mid-cycle adjustment, the market is looking forward to the lagged impact of the latest easing. Worries about a recession in 2020 seem to have been put to bed for now.
The second piece of good news came at the end of the week when non-farm payroll data emerged on Friday well ahead of expectations. The creation of 128,000 new jobs in October, much more than the 90,000 or so the market expected, came despite a strike at General Motors. It suggested that the underlying figure was closer to the 180,000 that the previous month was revised up to.
The job creation, particularly in the important service sector, suggests that the worldwide manufacturing and industrial recession has so far been contained. Consumers are holding their nerve thanks to the resilience of the labour market. Even if businesses are holding back from capital investment, people will continue to spend if they keep their jobs. And the latest data confirmed that the unemployment rate, at 3.6%, remains at a multi-decade low.
The third piece of good news came at the weekend when US Commerce Secretary Wilbur Ross said at an Asian trade summit in Bangkok that he is confident a deal between the US and China will be signed later this month by Presidents Trump and Xi. He said good progress had been made on a phase one agreement and further cheered investors in Europe, in particular, when he hinted that the US would hold off on threatened auto sector tariffs. Making cars is a key driver of the European economy.
The good news on trade continued last night as it emerged that Trump administration officials are debating whether to remove some tariffs that were introduced in September on a range of consumer goods like clothing and flat screen monitors. The concession is part of a flurry of last-minute moves by both China and the US to smooth the way to a partial trade deal this month.
Put those three themes together and it is not hard to see why investors have regained their mojo this year. All around the world, stock markets have recovered from the slump in the fourth quarter of 2018 when investors balked at the unholy alliance of slowing global growth and tighter monetary policy.
Since the Christmas 2018 low, the S&P 500 has notched up a 23% rise, closely followed by the 22% increase for the Euro Stoxx index. China has done even better, with shares in Shanghai and Shenzhen up by a third in 2019, regaining all of the 25% slump last year when the CSI 300 was the world’s worst-performing market.
The dramatic turnaround in markets this year underscores the danger of trying to time markets. The bottom of the market cycle, and the best buying opportunity, invariably coincides with bleak sentiment and gloomy economic headlines. Buying at those moments is hardest but also most profitable - and, sadly impossible to time.
The return to risk appetite this week has been accompanied by a continuing rotation out of defensive stocks like consumer staples and into more cyclical financial and industrial stocks. Investors tend to buy cyclicals when they feel comfortable about the outlook for the economy and are prepared to take a chance on out of favour shares.
The third quarter results season has confirmed that the corporate trading environment is deteriorating less quickly than had been feared only a few weeks ago. With about 80% of the S&P 500 having announced results in the past few weeks, average earnings are running about 2.7% lower than the same quarter last year when profits were boosted by Donald Trump’s tax cuts.
More importantly than the reduction in earnings is the fact that profits had been expected to fall by more than 4% in the latest quarter. Markets move on changing expectations so the hope that the earnings recession of the first thee quarters of 2019 might have run its course has given investors a major fillip.
In other market news, Saudi Arabia confirmed this weekend that it will be bringing Aramco, the state-owned oil company, to market this year in a flotation that Crown Prince Mohammed bin Salman hopes will value the company at $2trn, making it the world’s biggest business by a considerable margin.
The investment banks handling the float are less optimistic but even they are clearly unsure what the appetite of the world’s investors will be for a company that holds the world’s largest oil reserves but also carries with it considerable political risk. The bankers are valuing the company at anywhere between about $1.2trn and $2.3trn, a massive spread that itself is bigger than the overall value of both the next biggest companies, Apple and Amazon.
A big test of the float will be the level of foreign investor demand, which will be looking for Aramco to be competitive with other, safer, energy investments. Aware of the challenge, the Saudis are tweaking tax rates and the proposed dividend payout of the company to increase the attractiveness of the stock.
On the domestic front, here in the UK, it’s all about the election now and for the next five or so weeks. With politics now fragmented along two different fault lines - an economic left-right split and an identity-focused Leave-Remain divide - this is the most unpredictable election in living memory. The challenge facing the pollsters has been increased further by the fact that the election will be held less than two weeks before Christmas when activists are less likely to want to be working the doorsteps in the cold and wet and many voters will have other things on their minds.
The four-way split pits ardent Remainers, the Lib Dems, against determined Leavers, the Brexit Party. Potentially caught in the tactical voting cross-fire will be the traditional parties, the Conservatives who have failed to deliver Brexit on the promised timetable and Labour, which has yet to really articulate, or even decide on, its Brexit position.
Add in Labour’s most radical economic manifesto since the 1970s and a Conservative Party that has abandoned the austerity of the past 10 years in a bid to out-promise Labour on its spending plans for the NHS and other public services and it is no wonder that voters are confused. Whoever wins the election it looks as if public spending as a proportion of GDP will soon return to its highest level in 40 years, according to analysis by the Resolution Foundation, a think tank.
How this all plays out in the financial markets remains to be seen. The pound, having bounced off its post-referendum lows of around $1.20 now looks rangebound at just under $1.30. The stock market is meanwhile taking its lead from Wall Street but remains a major underperformer this year with the FTSE 100 up by less than 10%.
The Prime Minister is running on a Let’s Get Brexit Done ticket. But investors accept that whatever the outcome of the election the uncertainty will continue. Getting Brexit Done would really just mean Getting Brexit Started.