Markets are likely to rebound from the current correction as macroeconomic conditions support a further upswing, but investors may need to begin positioning for a recession in the coming year, according to Royal London Asset Management’s Trevor Greetham.
Greetham – who oversees Royal London’s Global Multi Asset Portfolios (GMAP) range – said the latest sell-off in markets had been prompted by two key factors.
Performance of indices in October
Source: FE Analytics
“One is that there has been a mini-cycle where China has been slowing down while the US has been going strong,” he explained.
“What that means is that the Fed is raising rates and raising the cost of finance at the same time as China is slowing down. This is putting downward pressure on company sales and that’s quite a bad combination.”
The other issue that has triggered a drop in stock prices is ongoing concerns over an escalation in the US-China ‘trade war’, which Greetham believes US president Donald Trump has stoked in order to drum up support in key mid-term elections.
“I’m sure that I wasn’t the only person who thought that Trump would try to energise his base ahead of the mid-term elections by misbehaving in some way or other,” said the multi-asset manager.
“Upping the ante massively by blaming China for being worse in terms of espionage than Russia – whether that’s true or not – and ramping up all the trade concerns would be a way to get his base to show up and vote in the mid-terms and the market has expressed its displeasure with that.”
Greetham also noted stagflation-type conditions – slowing growth, rising inflation and rising rates in the US – also made markets more conducive to a correction.
One aspect of the current correction in markets has been how broad-based the sell-off has been – as demonstrated in the chart above – with most major indices falling during October.
“It doesn’t surprise me at all,” he said. “So far, the correction has shown little differentiation at the regional level it’s not like the emerging markets have outperformed or underperformed: they’ve done pretty much the same as the US.
“That tells me it is a very global phenomenon this concern and that’s why all markets have been hit equally.”
Another aspect of the current correction that Greetham said was interesting has been the behaviour of bond markets – or the lack of it.
“Often when you’ve had a correction of this size it makes bond yields drop; people connect the drop in the stock market with the Fed going on hold [with rates],” he said.
“This time you’ve seen remarkably little change in bond yields and either that means the stock market fall has to go a bit further or it means that this is a different kind of sell-off.”
Greetham (pictured) explained: “It’s not a sell-off to do with some kind of weakness in global growth we haven’t heard about because bond markets are really good at picking that up.
“It’s more an interest rate-driven sell-off: bond yields have stayed high; the stock market has dropped, partly because bond yields have been rising; and, the economy is still strong.”
Yet, while the sell-off has taken some by surprise the Royal London manager said it also offers an opportunity for equity investors. As such, he has been adding to equity exposure within his GMAP portfolios.
Greetham’s Investment Clock
Source: RLAM
“We find it almost always right to buy during a panic: there have been very few examples of panics of going from bad to worse and bad to worse continuously,” the multi-asset specialist said.
“The US economy is still very strong and if you look at the tax cuts and the fiscal stimulus still feeding through to spending, we think that’s going to peak out some time next summer,” he said. “On top of that, China is cutting interest rates to offset what they think might be the damage from the trade war and that will stimulate their economy as well.”
Greetham said therefore that another mini-cycle upswing is likely with strong US and Chinese growth likely to push stock prices higher.
However, such an outcome is likely to lead conditions into more ‘overheat’ territory where you have strong growth as well as rising inflation and interest rates which will bring the end of the expansion “much closer”.
“The chances of a recession are rising but it’s from next summer onwards when interest rates will be higher, when Trump’s stimulus will have faded. If he loses the mid-terms he won’t be able to do another stimulus,” said Greetham.
“That’s the sort of time people should be more concerned about but right now we’ve been buying equity markets we’re monitoring the situation closely.”
He added: “My expectation is that the business expansion and the stock market bull run [will] continue into next year.
“The next six or nine months [will be] a very good time to get your house in order and work out what you would do in terms of strategy or holdings if we see another global recession take hold, because that is now becoming a credible risk.”
Greetham joined Royal London in 2015 having previously been asset allocation director at Fidelity International.
The largest fund in the six-strong GMAP range is the £86.3m Royal London GMAP Growth fund, which aims to deliver growth over an investment cycle of approximately six-to-seven years.
Performance of fund vs sector since launch
Source: FE Analytics
Since launch in March 2016 it has delivered a total return of 23.80 per cent, compared with a 22.77 per cent gain for the average IA Mixed Investment 40-85% Shares sector.
The fund has an ongoing charges figure (OCF) of 0.62 per cent.