Page 10 - DIY Magazine March 2018

STOCK MARKET CORRECTIONS ARE HEALTHY
By Richard Buxton Head of UK Equities
Stock market corrections are a healthy part of everyday investing. Embrace them, says Richard Buxton, head of UK equities and manager, Old Mutual UK Alpha Fund.
Spring is in the air. Wakened from their cosy lethargy of the long winter months, Mother Nature’s ‘green shoots’ are beginning to appear. Evenings are lighter, and
the sun is just beginning to tiptoe out from behind the clouds. Change is most definitely afoot.
A change of direction has also dominated global stock markets of late.
Barely weeks into the new year and investors have experienced their first proper correction for some time. Having been cocooned in an unnatural environment
of ever rising markets and low volatility, a period in which the US S&P 500 index, last year, registered not a single ‘down’ month, investors have tasted a morsel of the new normal. Something akin to the good old days of investing before markets were distorted by the continuous drip, drip, drip of easy money and no one was overly familiar with the, ‘it’s going up because it’s going up’ mentality.
Investors, it seemed, started 2018 in too euphoric a mood, triggering talk of a ‘melt-up.’ The term, we are reliably informed, is used to describe markets that experience a sharp rise in valuations due to a veritable stampede of investors anxious not to miss out on a rising trend.
FEAR IS GOOD
Mercifully the melt-up failed to materialise. But the hope now must surely be that the correction we experienced is not just a ‘one-week wonder.’ A degree of fear, inevitably translating into share price fluctuations, is healthy, giving active investors the opportunity to pick up bargains, while affording us the chance to trim top heavy positions whenever the occasion arises.
Today, despite the pull-back, underlying economic fundamentals remain supportive, with little evidence that recession is just around the corner. Whilst in the UK, inflation, caused by sterling weakness, has peaked and is likely to fall this year, in the US, inflation is on a gently rising path. But it is by no means accelerating too quickly and the rate of technological change continues to cap retail price inflation, even if we are now seeing some improvement in wages.
But without a doubt, the latest reporting season in the US has revealed that profits, and industrial profits in particular, are strong. For the first time in many years, we are seeing the beginnings of a return to pricing power. While things appear fine for now, pressures are beginning to build.
THE INFLATION GENIE WILL LIKELY RETURN... BUT IN AN ORDERLY FASHION
Tomorrow, or more specifically over the course of 2018, inflation will start to pick up, and as long as it doesn’t surge ahead, that is how it should be. Inflationary forces are already at play. President Donald Trump’s tax cuts have meant that the scale of bond issuance, driving down prices and driving up yields, which move inversely to each other, will have to rise if the US Treasury department is to keep its coffers from emptying too quickly. That, and the US Federal Reserve starting to scale back the size of its monetary stimulus programme, putting an end to the era of ultra-cheap money, should combine to push yields on the US 10-year bond over the all-important 3% level.
The key question, not just for UK investors, but global investors generally, is to what extent will this upset the equity applecart? Personally, I think the market can absorb the rise but the key word in all of this must surely be gradual. Bond yields should rise; gradually. Monetary stimulus should be reduced; gradually. Interest rates should rise; gradually.
DIY Investor Magazine | Mar 2018 10