Fear is stalking the markets once again. Investors have become extremely sensitive to even the slightest sign of bad news. It is rare to see equity markets reacting the way they have over the past weeks, with market upheavals occurring before any major event has actually taken place. It’s even rarer to see market falls resulting simply from the anticipation of future events.
However, there have been plenty of things for investors to worry about. Europe’s potential debt crisis and fears of a possible sovereign debt default, along with the need for debt restructuring programmes, have resulted in tightening monetary conditions in Europe, a buyers’ strike on European Government bonds and a resultant downward pressure on the Euro. This is all amidst talk of the ultimate demise of the European Union. Euro-sceptics are having a field day.
Elsewhere, North Korean sabre rattling, concerns over the bursting of a Chinese property bubble, and unsubstantiated rumours that China was reconsidering its position as a buyer of Euro government bonds, all added fuel to the fire. However, while worries gathered pace in the penultimate week of the month, towards the month end some rationality returned, and investors became more able to see value in the market.
The question for Europe now is whether the rising costs of borrowing, resulting from tightening liquidity conditions due to the sovereign debt concerns, will slow the ongoing, albeit anaemic, economic recovery more than the weaker Euro will stimulate it through helping European exporters.
We believe the case for a sustainable but sluggish recovery is still strong. Despite this, we also know that sentiment can drive stock markets for some time before rational valuation prevails again. The events of recent weeks show that market participants are far more susceptible to fear than they have been for a while. And with a number of important technical and psychological boundaries having been broken, such as the FTSE 100 falling below the 5,000 level, this has created the potential for further falls.
Added to this is the confusion created by the erratic behaviour of those who are trying to shape fiscal, regulatory and political policy. We saw a particularly negative spell of this from Germany in May. Any such uncoordinated action, along with more alarming geo-political news, might be all it takes to spark the next sell off, with the possibility of the market hitting further lows for short periods of…
