01 March 2019

From panic to complacency?

5 min read

 
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Kimberley Robinson

Corporate PR Manager

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Royal London Asset Management’s head of multi asset, Trevor Greetham, looks at whether investors are now more complacent to growth.

Royal London Asset Management’s head of multi asset, Trevor Greetham, looks at whether investors are now more complacent to growth.

“Global growth slowed over 2018 and inflation rose, moving our Investment Clock model into the Stagflation phase of the business cycle. As a result we cut the equity positions in the multi asset funds we manage to neutral by late summer and were able to buy stocks on weakness in 2018 Q4 when markets were prematurely panicking about the risks of a US recession.

“It pays to buy when others are fearful. Our investor sentiment indicator registered one of its ten most extreme contrarian buy signals (table 1) in late December during what we label as the “Trump Slump” – a brutal sell off exacerbated by a Christmas twitter storm of threats of a trade war with China and criticism of the independent US Federal Reserve for raising interest rates.”

Table 1: The Top 10 most extreme weekly sentiment readings since 1990

Note: The RLAM Composite Sentiment Indicator is a normalised combination of indicators related to market volatility, private investor sentiment and US director dealing in shares in their own companies.

“Stock markets have risen strongly since the year end with the Dow Jones index enjoying its longest winning streak of positive weekly gains in 25 years. Our sentiment indicator is now registering its highest reading since January 2018 (chart 1), suggesting that investors are now a bit too complacent about growth. In particular, US company directors have swung from buying the shares in their own companies during Q4 to selling them and they tend to get it right.”

Chart 1: The highest sentiment reading since January 2018

“We moved our equity exposure back down to a more neutral level during the rally. We are seeing additional stimulus in China, the Fed has stopped raising interest rates and President Trump appears to have backed down on threats of new tariffs on China but markets appear to be priced for perfection and it’s too soon to say an upturn in growth is underway. Our base case is that growth surprises positively against muted expectations in 2019. Stock markets should go higher but we would prefer to wait for a dip – or a more convincing improvement in economic data – before adding significantly to our equity exposure.

“Longer term the outlook is getting cloudier. The US housing market is cooling off and that doesn’t bode well. A drop in home builder sentiment is a good one to two year lead indicator of a rise in unemployment (chart 2). If growth does firm up later in the year, US interest rates are likely to rise further, putting more downward pressure on housing and raising the risk of a full blown recession in 2020.

“Volatility is here to stay and it pays to have an active strategy that can take advantage of it.”

Chart 2: Home builder sentiment as a 6 quarter lead indicator for the US unemployment rate (shown inverted)