James Sullivan provides an update following February’s bout of market volatility
Often, after a market wobble, we’re inundated with the usual rhetoric from investment houses, proclaiming that the volatility had been expected, and the fact it’s actually welcomed by the team who now see a vast array of opportunities presented to them. It’s all quite mundane and tedious, driven by marketing teams keen to promote confidence and calm heads.
We’re going to therefore try and avoid writing such a scripted ‘wise after the event’ note, but briefly ask for forgiveness as we reference our most recent client blogs.
On the 8th of January we wrote to investors stating that the “chances of a market setback appear greater than the chances of the market continuing to rally” and on the 19th November we wrote “justifying market multiples because bond yields have been artificially suppressed is a credible narrative, and holds up well to scrutiny, but when the music stops, it won’t be different this time”.
The second quote we feel is now very pertinent.
As yields move higher, and take the UST 10 year as the benchmark, it puts real pressure on the relative attraction of highly rated companies with limited visibility to their forward earnings. Right now our focus is on bond yields, and higher yields in a grossly indebted world really matters, particularly if we consider that the biggest buyer of bonds, QE, is supposed to be leaving town. This is an unfortunate combination.
The recent inflation numbers in the US put CPI at 2.1%, which paired rather uncomfortably with a 0.3% January decline in retail sales. Additionally, the Atlanta FED has reduced its growth expectations by some margin; first from 5.4% to 4% then to 3.2%. All this has prompted some media outlets to raise the prospect of modest stagflation coming in to play.
Observing so few data points cannot allow one to make conclusive projections, granted, but should the UST trend back towards 3% or higher, particularly if coupled with weaker than expected growth, then the shakeout we saw earlier this month could well prove to be nothing more than the entrée.
All that said, it would be foolish to be out of the market, that’s just not an option. We have a duty to our clients to pursue calculated risks, and that we shall continue to do. However, avoiding highly rated areas of the market and maintaining exposures to cash equivalents gives us what we perceive to be an advantage going into further volatility and turmoil. Deploying cash into a falling market is easy, selling into a falling market is not. We’re positioned very much to take advantage of the former.