Market View - October 2012

Much ado about nothing might be the best way to describe the fear that had gripped some market commentators as they warned of the Ides of September at the beginning of last month!

To be fair, September is historically the worst performing month on average in US stock market history (since 1896 the Dow Jones Industrial Average has lost an average 1.07% during the ninth month while the average for all other months was a gain of 0.71%), but the market doomsters should maybe have known this year it would be different, and that the Federal Reserve System (Fed) would in all likelihood ride to the rescue of the markets with further quantitative easing following the dire August non farm payroll figures released in early September. The pitiful 96,000 new jobs added in August was in stark contrast to the number of Americans no longer classed as being in the labour force but still wanting a job (it is extraordinary how creative the US Bureau of Labour Statistics can be when a national election is around the corner!), which increased by 437,000 to 7 million, while the official number registered disabled went up to 9 million suggesting the true unemployment rate is at least 10%, and not the 8.1% officially quoted.

In such circumstances it was always likely the Fed would opt for QE3, but few market commentators had anticipated the central bank would announce what amounts to “QE Indefinitely” or QEI with its pledged monthly purchase of $40 Billion of Mortgage Backed Securities (MBS) for “as long as necessary”, in addition to continuing operation twist, and extending its zero interest rate policy (ZIRP) until 2015! ZIRP is arguably the most controversial decision, since according to the Taylor rule (devised by Stanford economist John Taylor, and which many at the Fed have previously insisted had to be adhered to if the US was to avoid replicating Japan’s mistakes in the 1990’s which resulted in the two lost decades for the empire of the rising sun), the Fed should actually be tightening policy by increasing interest rates now.

Global opinions on the Fed’s announcements fell broadly into black or white camps of agreement or condemnation with Martin Wolf at the FT applauding Bernanke’s actions while Marc Faber, of Gloom, Boom & Doom fame’s response was “the Fed will destroy the world”, whereas Nobel Laureate Paul Krugman at the New York Times seemed to want even more QE and complained “The change in tone is important but I would have liked a more stronger statement”! Regardless of who is right, global equity markets soared as did gold and silver and several commodity markets!

During September global equities as measured by the MSCI World index in US$ terms rose a further 2.52%, and are now up almost 11% since January 1st 2012, while the JP Morgan Global Bond Index has risen 3.11% since the start of the year. Most regional equity indices rose in September on the back of the Fed’s QEI with the S&P 500 climbing 2.42% (up 14.56% year to date), while even the FTSE 100 which has stubbornly refused to replicate the US market (except when falling!) most of this year, climbed 0.54% (up 3.05% YTD), the FTSE Eurotop 100 managed to climb 0.30% (up 6.60% YTD), the Nikkei 225 in Japan climbed 0.34% (up 4.91% YTD), the Hang Seng in Hong Kong incredibly climbed almost 7% (up 13.05 YTD) and the Shanghai Composite in China even managed a positive month by rising 1.89% (but is still down more than 5% YTD)!

The equity market star of the month however was undoubtedly Mumbai as the MSCI India index climbed 8.62% and is up 22.75% in 2012. The market responded positively to a flurry of reforms announced by the Indian Prime Minister Manmohan Singh including a reduction in diesel and cooking gas subsidies, while relaxing the restriction on foreign direct investment in multi-brand retail, aviation and cable TV, all of which should help kick start private investment and help reduce India’s fiscal deficit!

While September may be the worst month on average for stock market returns, October is of course renowned as the month of some of the worst crashes in history! After all, who of us involved in the city in 1987, will ever forget October 19th or Black Monday as it became known, when a crash which began in Hong Kong spread west across the time zones and through Europe with all markets declining heavily before the Dow Jones Industrial Average in New York fell 508 points or 22.61% to close at 1738.74!

With hindsight we can now reflect upon the Black Monday crash and subsequent market retreat through to December of 1987 as simply being a healthy correction to equity markets which had gotten rather ahead of themselves, and interestingly the US stock market that year still ended higher than where it had been on January the 1st, and pretty soon the event scary as it was at the time, had been more or less forgotten as the long secular eighteen year bull market that began in the summer of 1982 carried merrily on its way until finally imploding with the dotcom collapse of 2000! This was in stark contrast to the crash in 1929 on October the 29, when the Dow plunged only 12.8% on that actual day, but then notwithstanding periodical rallies, carried on falling over the next decade of depression until eventually the market had lost approximately 90 percent of its value!

However despite all the current problems facing the global economy and markets, (including generally anaemic economic growth, stubbornly high unemployment numbers in the western world , the very real possibility that China is experiencing a hard landing after all, the looming US fiscal cliff, and of course the ever present eurozone crisis where a lot of the hot money is now on Germany to be first to leave the wretched currency albeit maybe not just yet ), the outlook over the short term looks very promising. Effectively now that the Fed has opted to throw caution to the wind, and crank up the printing presses regardless of the inflationary threats down the road (one suspects partly because they still perceive the deflationary threat from the continuing massive deleveraging of the shadow banking world to be the greatest threat), it seems probable that the value of most assets are likely to carry on rising for the foreseeable future, thereby tempting fate to suggest that this time just maybe it will be different!!

Only time of course will tell and in the interim, as always, a sensible risk adjusted asset allocation approach to portfolio investment is the only prudent option!