Markets had to crack at some point, and now they have.
- Stronger US wage growth has prompted a sell-off in markets as investors fear rising rates
- The flip side of inflation fears is that it means a stronger US economy
- Investors shouldn’t be panicked out of equities into assets that are potentially even more vulnerable
In our hearts, we knew that it couldn’t last. All that lack of volatility, those gently rising markets, it was always going to end at some point. It was just difficult to know what the catalyst would be, given that the global economy was still strong and interest rate rises seemed benign.
In the end it was inflation wot did it. As the US delivered stronger wage growth, inflationary pressures began to weigh on markets. Already over-valued – and, if some are to be believed, supported by leverage – the sell-off has been decisive, with markets falling around 5% in a matter of days and showing no signs of stopping.
Laith Khalaf, senior analyst at Hargreaves Lansdown, described it as ‘the storm after the calm’. He added: “We have enjoyed an extended period of plain sailing in markets, which have crunched happily upwards for the last couple of years. Despite the heavy fall in the Dow Jones, the index is still trading around 20% above where it stood this time last year, so it’s important to keep some perspective.”
All the usual platitudes about not panicking, about investment being a marathon not a sprint, still apply. The flip side of inflation fears is that it means a strong US economy. And a strong US economy is good for global growth, and for corporate earnings.
Of course, the big worry is a rate rise, which would make it more expensive for companies to raise debt. However, the most prudent companies have already locked in long-term debt at relatively low prices. It is doubtful whether higher rates would hit for a while.
Investors should be far more worried about the bond market. The US treasury yield is currently hovering at around 2.7%. While this is a significant rise from its level in September last year, it would still offer poor compensation in a rising inflation/rising interest rate environment. Similar patterns are being seen in bond markets around the globe.
In the long term equity markets have proved more reliable in generating growth, and protecting against inflation. Investors shouldn’t be distracted by this shorter-term noise into allocating away from the asset class in favour of areas that may be even more vulnerable.