Gray: Market rally based on nothing

The FTSE has risen by more than 10 per cent in the last 10 weeks or so, but some experts believe this is based on false expectations.

By Joshua Ausden, News Editor, FE Trustnet
Tuesday August 14, 2012

The recent surge in equity markets is based on false expectations, according to star manager Martin Gray, who says nothing has happened to alter his increasingly cautious stance.

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The FE Alpha Manager, who heads up the sector-leading CF Miton Special Situations Portfolio, believes the FTSE’s 11.61 per cent rise since 1 June is unsustainable and anticipates a market correction in the near future.

"Mario Draghi [president of the European Central Bank] made some throwaway comment and then went on holiday – that’s been the main basis for the rally," he said. "Things have quietened down, sure, but that doesn’t mean anything has improved."

"The £1bn of liquidity being pumped into the system every day [through quantitative easing] has also helped, but again this hasn’t done anything to solve the problems."

Improving US jobs data and Draghi’s vow to "do whatever it takes to save the euro" have been met with a great deal of optimism from the markets. However, Gray believes most of the rest of the news has been negative – not positive.

"We haven’t really had any news that we didn’t expect and if anything some figures have disappointed," he said.

"Unemployment still isn’t great, GDP growth is awful and while corporate results overall have been OK, earnings and revenue surprised on the downside."

FE Trustnet readers appear to share Gray’s pessimism: according to our latest poll, almost half believe it will be at least six months before the FTSE breaks through the 6,000 barrier.

Unless the FTSE – which at the time of writing is at 5,852 – stays flat until after Christmas, this implies a significant market correction in the near future.

Only 9 per cent expect the surge to maintain momentum and break 6,000 within a month, while 20 per cent believe it will happen within three months, and 25 per cent within six.

The index is up 11.61 per cent since the beginning of June, compared with 11.46 per cent from the Dax and 7.6 per cent from the S&P 500.

Performance of indices over 1-yr

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Source: FE Analytics

Invesco Perpetual’s John Greenwood agrees that the market has overreacted to recent news regarding the eurozone and thinks things will have to get worse again before they get better.

"In my view, Mr Draghi overplayed his hand," said the chief economist. "In London on 26 July he had promised to do 'whatever it takes' to save the euro, but apparently he did not mean that he would deliver on 2 August. There was no rate cut, no SMP [securities markets programme] re-activation and no introduction of a new LTRO."

"Draghi made clear that before the ECB would be willing to buy Spanish or Italian bonds, the country in question must formally request EFSF [European Financial Stability Facility] support."

"In other words, the ECB will not step into the bond markets until things have worsened to the point where the country has appealed for a Greek-style rescue. Investors looking at Spanish or Italian sovereign bonds will remember the Greek debt haircut."

"In short, the new programme will only be activated after Spain or Italy fall deeper into crisis."

Performance of fund vs sector over 10-yrs

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Source: FE Analytics

Martin Gray’s £835m CF Miton Special Situations Portfolio is a top decile performer in its IMA Flexible Investment sector over five and 10 years, with returns of 36.44 and 179.25 per cent respectively.

The fund recently moved from the IMA Mixed Investment 40-85% Shares sector as it had too little invested in the equity market.

According to FE Analytics, Gray’s portfolio currently has 35.4 per cent in equities – around the same amount it has in cash.

Gray performed particularly well during the dotcom and Lehman crashes, protecting extremely effectively against the downside.

However, he hasn’t always been a defensive manager and outperformed the market during the up years of 2003, 2004 and 2005.

The CF Miton Special Situations Portfolio has a minimum investment of £1,000, and a total expense ratio (TER) of 1.73 per cent.

It is a fund of funds, holding the likes of Schroder Asian Bond and GLG Japan Core Alpha in its top-10.

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Gini Aug 15th, 2012 at 05:04 PM

I'd say equities are no worse an investment than (negative) bond yields, falling property prices, no decent interest from banks etc., all on a background of stubborn(rising) inflation surely?

Really not a robot Aug 22nd, 2012 at 04:47 PM

Ultimately, it is not fear or optimism that drive prices, it is fundamentals. If Europeans, Americans and Asians stop consuming as they have, prices should be depressed. If they start to consume once more prices will pick up. I can be optimistic that demand will increase, but until it does, I am only a plucky contrarian. I'll pay more for stock when I believe I'll get a just yield. If I remain unconvinced, I'll sell up. Tell me that's irrational.

Andrew Alexander Aug 15th, 2012 at 01:39 PM

Wholeheartedly agree with Martin. The recent rally has been based on absolutely nothing and with the VIX trading at its lowest point in the past 5 years, complacency is at its highest.

valiant Aug 14th, 2012 at 05:56 PM

Ark Welder, There is fear in the markets, especially I suspect in the small investors who were hit hard in 2008. Generally though nothing has happened yet in terms of investors throwing the towel in on equites. That phase will signify to me that this bear market has bottomed. Of course you may not agree that this is a bear market.

Ark Welder Aug 14th, 2012 at 08:15 PM

I don't presume to know whether equities are in a bear market or not. Whether a new bottom will be made, or whether 2008 was that bottom, no-one can state with any certainty whatsoever - not until the next top or bottom is made.

valiant Aug 14th, 2012 at 03:40 PM

Sentiment, I would assume you mean greed. There is still a belief by many that equities, property and commodities can deliver them riches. Maybe they are right. Easy credit and debt has driven growth for many years. The debt now though has to be dealt with and that is the big difference. The debt problem in fact is not being sorted. Once markets understand the Politicians and Bankers can't deliver the solutions the situation will become dire.

Ark Welder Aug 14th, 2012 at 05:15 PM

Fear is also a sentiment, and there is a great deal of that in markets too. One place it shows up is in the negative yields on the short-term sovereign debt of a number of countries - and newly issued debt too. That already shows a belief that the situation will become dire.

Vinylman Aug 14th, 2012 at 03:24 PM

Laughable - its so easy to say a 10% rise won't last. Although the sad reality is it probably won't last. Sentiment is a signifcantly more dominant factor than anything else in the markets today. It doesnt matter how good a stock picker you maybe or your view on macro economics with sentiment driving markets.

David Aug 14th, 2012 at 03:12 PM

Well something is driving it up!

Market senteminet can be based on the most unlikley things - quite often media hype up or down.

Be positive for once and the only way is up!