JUNO INVESTING ©

This bull market still has legs

JUNO INVESTING ©
This bull market still has legs

 

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SUMMER 2017

By Victoria Harris, Pie Funds

The global bull market we’re currently experiencing is close to an end – according to many headlines. 

Yes, global market indexes have delivered very impressive returns over the past decade (see Figure 1). In fact, since the global financial crisis (GFC), most markets are up by more than 150 per cent. 

The numbers are very impressive, and for that reason they have some market commentators worried about a possible big pullback. However, the global economy is in great shape and there are many signs that this bull market could still have legs.

 
Figure 1 Bull Market.png
 

Signs of growth

First, global business and output indicators continue to read positively. 

Global Purchasing Managers Indexes (PMIs) measure the economic health of the manufacturing sector and are a good gauge of business conditions. These remain in positive territory, and have largely held the gains made over the past year (see Figure 2).

The US PMI is trading at 53, compared to a low of 33 in December 2008. Any figure above 50 means an expansion of the manufacturing sector. 

Global growth projections for 2018 are now sitting at 3.7 per cent, compared to 3 per cent gross domestic product (GDP) growth in 2016.

 
FIGURE 2: Global manufacturing PMIs Source: Ned Davis Research

FIGURE 2: Global manufacturing PMIs

Source: Ned Davis Research

 

We’re still buying

Secondly, the consumer sector remains healthy. Consumer confidence levels in advanced economies continue to track higher and are now sitting at optimistic levels. Overall global consumption has also rebounded strongly from the beginning of 2017. 

This is happening despite weakness in Britain and Japan. 

In the US, real disposable incomes have been growing strongly, and retail sales are also tracking at a robust 4 per cent growth year-on-year. US unemployment is also trending lower and is now at historic lows.

Interest rates are low

Lastly, monetary policy is expected to continue to help growth. Global monetary conditions remain loose, despite continued tightening by the US Federal Reserve (the Fed). Interest rates in most developed economies remain exceptionally low. 

Despite the yield curve flattening, it’s still not inverted, so the Fed may feel less pressure to increase interest rates in the second half of the year. 

So, while the global economy, and particularly the US, seems set for continued strength, will this translate to ongoing rises in global market indexes? 

It’s up to the Fed

One of the biggest concerns, and one that could dampen this bull run, is if the US accelerates its increase of the federal funds interest rate. If the Fed carries out a steady, controlled step-up in rates, this will continue to be good for the share market. 

If it doesn’t, and rate rises accelerate, the wind could come out of the markets’ sails. However,
low Consumer Price Index (CPI) figures in the US (see Figure 3) have dampened market expectations to only one rate hike before the end of 2017. This is a good thing for global equity markets.

These economic conditions help to create a healthy environment for business, and I expect they’ll continue to be a tailwind for corporate earnings.

 
FIGURE 3: CPI rates of change Source: Ned Davis Research

FIGURE 3: CPI rates of change

Source: Ned Davis Research

 

High share valuations

However, share returns have been very strong over the past decade, and share valuations have become quite stretched, compared to historical averages. The difference today, though, is very low interest rates. 

For the markets to continue their bull run and for valuations to continue to make sense at these high levels, growth and profitability will have to track on as predicted. Without this, and with interest-rate rises, there’s a potential for valuations to pull back. We would see that in the short-to-medium term. 

But if interest rates can rise in line with improving returns on capital, then I can see share valuations continuing to rise over time. 

Though interest rates may move slowly higher, economic optimism has improved and corporate balance sheets are strong. 

A recession, which would drive a sustained drop in share prices, does not appear to be imminent. 

The key takeaway for investors in this environment is to remember to focus on your real, longer-term objectives and not to get caught up in the day-to-day movements of the stock market. 

Remember, it’s time in the market, not market timing, that counts. 

 

DEFINITIONs

Federal Funds Rate: The interest rate applied when US banks and other deposit-takers lend money to each other overnight.

Yield Curve: A graphical illustration of interest rates or returns, over time. A ‘flattening’ yield curve depicts growth, but at a slower rate.