Extract from Monthly Investment Newsletter
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State of the Share Markets - lessons learned
It has been 12 months since the US investment bank Lehman Brothers failed and set off a roller coaster ride for the global economy. What lessons have been learned?
Fortunately, the world has pulled back from the brink and is now in far better shape. But is the recovery for real and what have we learned from the global financial crisis?
A year ago on Sept. 29, the Dow Jones industrial average suffered its worst point drop in history plummeting nearly 778 points, or 7% after the House of Representatives rejected the first draft of the $700 billion financial rescue plan.
The US share markets lost $1.2 trillion dollars in market value that day.
Of course, the controversial Troubled Asset Relief Program, or TARP, ultimately wound up being passed by the House and a few days later the Senate approved a modified bill.
The market chaos didn't end with the passage of TARP though. Over the next few months, the Dow suffered its second biggest and third-biggest point gains in history.
Looking back, it truly is amazing how jittery and uncertain investors were about where the economy was heading. Between the time that Lehman Brothers collapsed on Sept. 15 and the end of 2008, the S&P 500 moved up or down at least 3% in one day a stunning 29 times.
Fortunately, the days of insane market volatility appear to be over. In September the OECD announced that "clear signs of recovery are now visible" in all seven of the leading Western economies, as well as in each of the BRIC nations. Economic stimulus packages of spending and tax cuts, combined with loose monetary policy by most central banks, are starting to have a positive effect on global growth but there remain some concerns that fiscal programmes on this scale will eventually mean a rapid return to monetary tightening and inflation.
The S&P 500 has experienced a 3% swing only 20 times so far this year. And that could be a sign that the recent rally, despite some concerns about running too far too fast, could be for real.
"The lack of volatility is a sign of good behaviour. This is what you should see at the start of a bull market. We've moved from a period of crisis to a period of early recovery," said Todd Campbell, president of E.B. Capital Markets, a Durham based research firm catering to institutional money managers.
In fact, when you look even more closely at the times the market had a big up or down day, almost all of them took place during the first quarter - a time when investors were fearing the worst for the economy.
Short term, we may see a gradual correction as markets may be over heated. The S&P500 index is up 60% from its low in March. The concerns last year were that we were sinking into the abyss and that the financial system had cracked. We have come a long way from last year, credit markets are showing stability and trading is resuming.
From a New Zealand perspective some of the strong gains in international markets have been diluted by the increasing strength of the NZ dollar versus the USD. Interestingly, for the last 6 months the NZD has been highly correlated to the US share market. The US market goes up, the NZD goes up, and vice versa. This will not continue.
Our clients "balanced" risk/return profile portfolios are on average up 24% from the market low in March.
All these economic stimulus packages are likely to lead to inflation once economies are well into recovery. Central bankers have just one main tool, short term interest rates, with which to control inflation and lessons learnt from the Japanese experience means that central banks are unlikely to raise interest rates quickly. We are expecting to see interest rates start an upward spiral around mid 2010.