FTSE 100 Forecast: Stock Market Correction Overdue
- " latest market falls are also in part no real surprise"
- Trade tariffs "are once again back in the headlines"
- "good news of course is that lockdowns are now starting to be relaxed"
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We’ve seen a tale of two halves for equities. It started on a strong note but markets fell back towards week-end and are down again today.
The initial gains were driven both by the tentative easing in lockdowns now underway in much of Europe and some states in the US and encouraging drug news. A new trial showed the drug being developed by Gilead to treat seriously ill coronavirus patients is in fact of some use, in contrast to an earlier study concluding it wasn’t.
Either way unfortunately, this drug is not really a game changer and the holy grail of a vaccine continues to look very unlikely to be developed until next year at the earliest.
The sour market mood of the last couple of days has been triggered most obviously by the ratcheting up of tensions between the US and China. The US is now blaming China for a cover-up and even asserting the virus was developed in a Chinese lab.
Trade tariffs, which were a major concern for the market for most of last year, are once again back in the headlines, with Trump now threatening to impose new tariffs on China.
However, the latest market falls are also in part no real surprise given the strength of the rebound with markets gaining more than 25% in little more than a month. The recovery was the sharpest ever out of a bear market and has looked overdone.
Above: FTSE 100 (UKX( daily chart
We are looking at the steepest fall in economic activity ever, and yet the US equity market following its rebound was back to the levels of last October. Price-earnings ratios are also looking expensive again, pushed up by both a rise in equity prices and fall in earnings.
Corporate earnings estimates have in the last few weeks been revised down considerably. We are now well into the reporting season and earnings in the US and Europe are likely to see falls of 15-20% or so in the first quarter. But with lockdowns only really being imposed in March, the second quarter will see considerably greater declines.
Similarly, GDP in the US and Eurozone both posted sizeable drops in the first quarter but this is a mere taster of the declines which will be seen this quarter.
The good news of course is that lockdowns are now starting to be relaxed and this should feed through to a bounce in growth in the third quarter.
Even so, we are not convinced the recovery will be the V-shape the market had seemingly come to expect.
Absolute growth rates will be high but only because the decline was so great. We expect the return to normality could turn out to be a frustratingly protracted affair for all concerned - not only markets.
We recently reduced our UK small and mid-cap equities exposure, fearing equities had rebounded far too fast.
The current intention is to reinvest the proceeds in larger cap US equities following a market correction and we will be monitoring events closely over coming weeks to judge when to put this cash to work.
Above: S&P 500 (SPX) daily chart.