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Tatton Asset Management Plc

Good news turns bad news – again

Globally, stock markets finished one of the best Januaries on record only to start February with their worst week for two years. Of course, from a UK investor or rather £-Sterling perspective January 2018 was not such a great month, which is why we are this month presenting the same asset classes from a £-Sterling and a US$ perspective, to illustrate the difference. The pound had gained against the US$ and also somewhat against the €Euro, when figures proved that the UK economy was doing better than widely expected. A stronger domestic currency makes overseas investments appear to have lower value, even if they had not changed at all in the local currency. That the UK stock market fell regardless is still a function of the currency, because so many of the big companies earn the bulk of their revenues overseas – which are now worth less than before.

We had been noting and writing for a while now, about our concerns over rising inflation expectations in the US leading to falling bond prices and rising yields and wondered when they may start to impact current stock market optimism. Well, it would appear that the push of US 10-year treasury yields above 2.7% and then soon thereafter 2.8% had US equity (retail) investors somewhat belatedly noticing the bond market sell-off as well.

That stock markets around the world fell a couple of percent over the week seems entirely a function of the slight exuberance of previous ‘goldilocks’ expectations, that companies could for the foreseeable future continue growing their revenues and profits at double digit rates, without inflation ever spoiling the broth. It was the combination of the good news of continued strong earnings announcements and a stronger growth in wages which put an end to such unrealistic expectations and soured the mood in the stock markets. The thinking is that if wages finally start to move upwards, then inflation pressures are not far away. This would mean that central banks have to raise interest rates quicker than anticipated by markets, which would lower the relative value of equity dividends over bond yields. Higher costs of wages and loan capital would also leave less profits for shareholders.

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Disclaimer: Statements in this article should not be considered investment advice, which is best sought directly from a qualified professional.