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Markets wobble - what next?

Growing popularity of exchange-traded funds may be partly to blame for a sharp market drop on Monday.

Wednesday, February 7th 2018, 5:59AM

by Susan Edmunds

After a shaky end to last week, the US markets pluinged again on Monday (US time), and the US stock exchange had its worst day since 2011. The Dow Jones industrial average dropped 1175 points.

US stocks lost US$1 trillion in value in the first five days of February.

AMP Capital head of investment strategy Greg Fleming said the weakness came after the S&P500’s strongest January in 20 years.

“As February began, the S&P Index had risen consistently for 15 months in a row, achieving a post-1928 record of 404 successive trading days without a 3% decline from a prior Index high.”

He said volatility had been low for so long that selling derivatives-based insurance against sudden market moves has become a popular means of supplementing returns in a low-yield world.

“ETFs have proliferated in recent years and a subset of these vehicles are structured to cut portfolio losses in adverse conditions by relying on computer-driven trading algorithms to enter and exit large positions very quickly, amplifying market moves over short time-frames.”

Fleming said the catalyst for the change in mood had been a convergence of positive US economic news.

Investors worried strong US employment numbers could push up wages and inflation and a member of the Federal Reserve’s interest-rate setting committee Robert Kaplan suggested rates could increase by more than 0.75 percentage points this year if the economy continues to grow quickly.

Fleming said the market was expecting a more hawkish Federal Reserve in the years ahead under new chair Jerome Powell, with less tolerance of potentially inflationary pressures and a more aggressive interest rate tightening programme than markets have expected. 

Commentators said the era of “cheap money” seemed to be coming to an end and that was scaring markets that had become addicted to it.

Greg McBride, a chief financial analyst at Bankrate, told media: “As economies around the world are improving, this means higher interest rates and less stimulus from central banks. That’s why investors are throwing a hissy-fit. Not because anything is wrong.”

Fleming said AMP Capital retained a neutral overall weighting to equities.

“Because the current ructions in markets come after a very strong run-up, they probably represent a healthy consolidation rather than an enduring market peak. The increased earnings prospects of global companies have actually reduced their degree of over-valuation recently. However, we do expect 2018 to be a rougher ride in markets than 2016-2017 as some overdue adjustments in pricing and position crowding play out across the globe.”

Tags: AMP Capital

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