One of the first jobs that I was apportioned at Psigma in the salad days of my early career was to write the daily morning meeting notes. 
To some this would have seemed a burden, but not to your lowly scribe. Having been “found out” over my total lack of computer skills, I actually found it a relief. Writing I could just about manage.
Despite my general naivety, I recognised that the unfortunate recipients of these notes (circulation of less than 10) were unlikely to read my nonsense, unless I made it digestible. So each daily note would have a song title, the notes were long on sarcasm and boring characters in the global markets were given new names.
Ben Bernanke was ‘Bearded Ben’ before he was rechristened ‘Helicopter Ben’ in 2009; Jean-Claude Trichet became ‘Tricky Dicky’ until after the ludicrous interest rate hike in mid-2008, when he was renamed ‘la clune’. Our very own Mervyn King was ‘Merv the Swerve’.
In truth, I’m not even sure my artistic licence encouraged greater readership, but many of those early traits, particularly the song titles remain to this day.
For those still suffering my commentary a decade later, you will recognise that today’s title was used before. In that ‘age of innocence’ when interest rates went up, markets ambled gently higher and everyone was lulled in to a (in hindsight false) sense of security, market corrections were rare and deserved a lot of commentary.
In the 2005 correction, a daily note was entitled ‘Bizarre Love Triangle’ due to the line from New Order’s cult classic of that name; ‘every time I see you falling, I get down on my knees and pray’.
Clearly with markets in a state of flux and funk, the title would be fitting once more. But there is more to the link than just that and today I want to discuss our views on the ‘love triangle’ that exists between markets, monetary policy and the economy.
Much of the commentary we have read in the press and in analysts’ notes has stated boldly that ‘nothing has changed’; this is a market shock, not an economic shock.
Performance of indices during the sell-off
Source: FE Analytics
I’m sorry but we disagree with this statement. Yes, markets may well have overshot economic reality to the downside (in some cases, not all), but the world’s growth rate has slipped down a gear from “solid” to “sluggish” in recent months.
Leading indicators in the manufacturing and services sectors around the world have started to cool, as economic activity wanes. Moreover, important guides that we use for future growth, such as Korean exports (released yesterday) and global trade activity have slumped in recent months.
We do not take the view that the world is teetering on the edge of recession or an imminent slump is due, but we definitely expect an unimpressive reading for growth in Q3. The question is what happens next?
The optimists will tell you that the stock market has already started to reflect the reality that growth has cooled, and to a certain extent we would agree.
Certainly many value and cyclical sectors started to forward discount the slower rate of growth some months ago. More recently, the growth names that had done so well in global markets, such as Technology and Healthcare, have also cracked, which depicts the more challenging economic environment, where profitability is likely to be lower than perennially-errant analyst forecasts now suggest.
Performance indices over 5yrs
Source: FE Analytics
Our view is that as long as growth stabilises, there are opportunities to be traded across global equity markets and we have taken an active approach to portfolio management in recent weeks.
So will growth pick up in the coming months and justify a more “risk-on” stance in equities, as many of our peers are positioned for?
There are definitely major question marks that linger over the growth path. The US is sluggish; Europe is recovering, but only slowly; and Japan is chugging gently along. Yes, the UK is expanding at a relatively healthy pace, but within this green and pleasant land things have gone from hot to lukewarm as well.
Clearly the emerging world has issues, but China appears to be improving from a very poor Q2 and early Q3 and this is good news.
The sum of the global economic parts suggests that growth should pick up slightly from here and in to 2016, but this is not yet clear enough to justify a more aggressive stance in portfolios, except for trading opportunities and we remain neutral in general portfolio allocations.
With economic growth having stalled (hopefully temporarily) and markets slumping badly (likewise), all eyes are now on the central bankers for their next move.
Most attention is rightly devoted to the US Fed and we have pushed back our expectation for a September rate increase to later in the year. Indeed, some are now saying that there is no way the Fed will hike rates this year.
Many claim this to be a positive; we disagree. If the US economy is deemed by the Fed as not sufficiently strong to weather a 0.25 per cent rate increase from current levels close to 0 per cent then that has got to be bearish.
How the Fed interpret the relationship between their action, the economy and markets going forward is set to be ‘interesting’.
Elsewhere, we would remind everyone that markets are falling even though the Bank of Japan, European Central Bank and People’s Bank of China are actually buying huge swathes of their financial markets.
We maintain our view that these remain attractive markets, due to the combination of economic recovery and monetary assistance, but we would state that ultimately markets will need proper economic growth and decent earnings achievements to justify current valuations.
If it is not forthcoming then there is the chance that investors might start to believe that the omnipotent central bankers have started to lose control and the ‘love triangle’ relationship has broken.
We hope that is not what markets have been saying for the last three weeks and that the summer squall gives way to a better autumn. For now that is what we expect, but we stand by ready to change tack if necessary.
Tom Becket is chief investment officer at Psigma. The views expressed above are his own.
