Investment markets 2015 — Expect the unexpected
09 February, 2015
Welcome to 2015 ... already it feels different doesn't it? The choppy start to the year has been something of a rude awakening for investors who enjoyed a relatively smooth 2014. In our December newsletter last year we talked about sitting back and doing nothing because markets looked set to keep on keeping on. This wasn't a glib comment – barring a few tumultuous weeks, last year was relatively calm (apparently some 20% calmer than "normal" according to statisticians). Yet here we are in the early weeks of 2015 and already we've faced a market that has been just as choppy as the worst weeks of last year.
Markets are in a state of flux because we have started the year, as indeed we do every year, with a variety of things we feel we should be nervous about. On top of the usual worries (like geopolitical tension, terrorism and low economic growth) January featured two surprising developments – divergent behaviour by policy makers (such as the Swiss central bank's surprise decision to stop pegging the franc's exchange rate to the Euro) and the end of the commodity super-cycle.
Monetary policy divergence is an interesting one. For years, markets have focused on the US Federal Reserve's policy, with every decision analysed and responded to by market participants around the globe. This fixation was understandable because every one of the Fed's policy decisions impacted the Holy Grail or anchor of asset valuations, the risk-free rate.
Uncertainty about movements in the risk-free rate had implications across the universe of fixed interest assets and shares (not to mention property, gold, and indeed all assets) as well as the global economy at large. While the Fed's quantitative easing (QE) programme dominated markets for a long time, and only history will confirm for sure whether it was successful, it at least brought calm to investors because the policy and its economic impact became relatively predictable. Now of course, the Fed has put an end to QE and is relying on the economy to maintain its own momentum.
Meantime, the European Central Bank is embarking on its own QE programme in order to avoid deflation, and the Bank of Japan and central banks in China, India and Turkey are following suit or expected to in the coming year. The divergent monetary policies are causing havoc with currency markets which makes it even harder than usual to know where to invest for optimal returns.
The other big contributor to volatility year-to-date has been the slump in commodity prices. We've all heard lots about the oil price which has actually been falling for a long time now as the world's economy has lost momentum. It's not just that demand for oil and other commodities has fallen, in part because China is consuming less than it used to; there has been significant investment in commodity production in recent years and as fresh supply comes on the market, it is serving to keep a lid on commodity prices.
What does the end of the commodity cycle mean to markets? Well, as always there are winners and losers. Obviously commodity exporters will have to find other ways to make money. But consumers will benefit from lower prices for all manner of products and services, and manufacturers will enjoy lower input prices so will either be able to increase profitability or sell their products cheaper, both positive outcomes. Meantime, commodity prices will likely remain volatile – oil prices can bounce just as easily as they fall – and markets will react accordingly.
While markets have encountered a few new uncertainties at the start of this year, they are still just risks to be managed rather than fundamental game-changers for economies or markets. The US economy is doing better than most expected, and elsewhere economies are generally growing at a fairly good rate. There are pockets, namely Japan and Europe, which are doing less well and they of course will get all the attention. But the base case scenario for 2015 remains positive.
Yes, we should expect the unexpected, but to quote an unnamed philosopher I stumbled on recently, we will also do well to "believe the unbelievable and aim to achieve the unachievable".