2019: The Year The Mirror Cracked
2019 will start very differently to how 2018 started. Last January Stocks were rampant, the Dollar weak yields resurgent, and commodities very strong. 2019 however will kick off with stocks close to freefall, a strong but tiring Dollar, and commodities and bonds turning back up. In many ways a mirror image of a year ago.
What has changed? Many things as highlighted in our review of the year below. However, sentiment has changed more than anything else—and particularly about stocks in both character and its impact on prices. From a broad historical perspective this is nothing new as Sir John Templeton so eloquently described the end of both the end of the 1980s and 2000 dot.com bubbles.
Understanding this change in this key asset class and how it relates to the other (FITS) pillars of global market analysis only provides a clear idea of what is going on at the end of the year but what will happen throughout 2019 as will be presented in our longer term outlooks for the next 3-4 weeks. Indeed comparison still with the disinflationary growth reversals of 1987 and to a lesser extent 1929 remains striking and by incorporating these almost unique Historical templates into our FITS analysis we can see how and why markets will continue to SHIFT. (Sentiment, History, Intermarket, Fundamentals, Technical.)
Before Donald Trump was elected we wondered what would provide the last leg of the stock uptrend from 2009 and such a euphoric clim—leading to a blowout and collapse in stocks yields and the Dollar. But the expectation of inflationary growth since his election has been extreme and pretty much outstripped reality throughout as evidenced by historically record PEs and to a point where pretty much every other ‘fundamental milestone’ for a top has been reached. And just like 1929 and 1987 as the international trade environment deteriorated so the prolonged 2018 Trade War has slowly but surely eroded the expectation of inflationary growth and with it stocks yields but not yet the Dollar.
2018 contains many event related narratives (Brexit Italy, Turkey, NAFTA) but all of them relatively isolated compared to a slowing of the World’s current growth engine, the US (and its related internet stocks). To a large extent this deterioration was led and reflected by year long underperformance in such markets as the German DAX. Indeed the correlation break down so typical in the latter stages of any trend (as the trend drivers fade) and has unusually continued into the most recent break down in US stocks. One could argue the impact of VIX and Donald Trump’s fragmentation of the world and global markets is the reason why market correlations have not come back. But its effect has been threefold. The first is that this is US move and many other markets are likely not to follow in quite the same way. Indeed markets like the DAX and Nikkei look supported in the near term at least, highlighting some significant spread reversal trades. Secondly and consequently, the USD (with the possible exception of USDJPY) has lagged the turnaround in the latter stages of 2018 whereas in 1987 it led the move. The prognosis however is clear.
Thirdly and the reason why markets are likely to remain fragmented into 2018, again is sentiment. For the last 18 months we have highlighted how traders have jumped from one instrument to another due to inherent lack of trust in valuations (stock or otherwise). Sentiment has therefore has also fragmented—not something I recall happened in the less complex 1987. The result, as we have seen increasingly over the last few weeks, is the concept and performance of anticipation or front running has collapsed. Traders/investors seeking a positive outcome from a positive event or release (or vice versa) have been more than disappointed. This is perhaps a typical response to both a complacent and overly invested market. But unless something happens (eg a clear end to the trade war) there is little not to expect this to continue. Given the news driven trading environment we live this is likely to prompt two way but one sided volatility over the next few weeks and months. And if anyone if in any doubt how markets can react after a bubble has burst, you only need to look back to the last major bubble.
Click here for our Review of the Year 2018
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