It should not be a major surprise for our regular readers that markets have been weak since our last letter. The core European equity index lost 4.1% last week, the US lost 2.6% and EM markets lost 0.6%. The key market mover was oil, another dynamic that regular readers will have been prepared for. The world has been producing a million barrels per day of excess capacity for weeks now, coupled with lower than estimated risks of war in the Middle East, and weaker than expected growth globally, it was only a matter of when the oil market would reverse, not if it would.
The current week is also likely to exhibit considerable investment uncertainty. Over the weekend, political change has been confirmed in European economies, accelerating the euro decline that started some days ago. Whilst the media attention is on the French election, it is arguably more important for investors to look at Greece. True, political change always causes uncertainty, but the new French president remains committed to correcting France’s deficit.
In Greece, there is a rising interest to review austerity agreements to stimulate growth. Unless the Greek politicians manage to frame this argument in a way that doesn’t reverse the path of fiscal repair, there is a danger of that country returning to the forefront of the risk agenda.
News from the US was also less than positive, as jobs data missed estimates, but it is far from disastrous. The US has still added an average of 200k jobs per month this year. Recovery is not as strong as many want it to be, but it continues to show healthy momentum.
Where does this all leave us? The risks are certainly lower than last year. There is no nation in the same condition that Greece then was, the market has a clearer understanding of steps the ECB can and will take to respond to market breakdowns, and European politicians are moving their emphasis toward pro-growth reforms. Recent political developments can only serve to accelerate this process.
Downside risks are more contained then, so we stand ready to buy as markets are coming down. What you do next depends on your existing exposure. If you are significantly underweight equities in your portfolio, this week is a sensible time to make first purchases. However, it is likely too early to rush in with strong conviction. In these volatile markets, it is better to wait for signs of a turn before shifting from risk aversion to increasing optimism.
The US remains a clear preference to Europe. And the key message is short-term caution, markets are getting oversold and close to technical resistance, once they get there, we will see if they manage a tactical rebound.
Best regards,
James
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