By Mike Dolan
LONDON Jan 25 Only four weeks into the new
year, ebullient world stock markets have clocked up gains of
more than four percent, so already there are murmurs about
whether it's too much, too soon.
Put another way, if global equities were to repeat January's
stellar performance every month of this year, then we would be
in for returns of more than 50 percent in 2013.
That's not technically impossible, but it is highly unlikely
given a still stodgy economic and company earnings backdrop
despite all the evidence of a global cyclical upswing.
MSCI's benchmark world index has never put
in annual gains of more than 32 percent over the past 25 years.
So is now the time for hesitation and a healthy pause for
breath or an outright correction?
Investors' new-found gusto for riskier plays has stoked an
appetite for everything from euro sovereign bonds and emerging
market debt and equity to even the preference for small cap over
big blue chip stocks.
Financial volatility gauges -t o the extent they represent
investor fears - all continue to plumb their lowest levels in
five or six years.
But this recent exuberance is unnerving policymakers - many
of whom strove for so long to rekindle these very "animal
spirits" but now fret about the seeming disconnect between the
spluttering real economies and a financial world fueled by the
cheap money central banks themselves have created.
"A combination of a weak recovery, and people searching for
yield in ways that suggest that risk isn't fully priced, is a
disturbing position," Bank of England Governor Mervyn King said.
"There is complacency and it is very dangerous," Angel
Gurria, the head of the Organisation for Economic Cooperation
and Development, told the World Economic Forum.
Jaime Caruana, general manager of the Bank for International
Settlements, chimed in with: "We need to pay attention to the
misvaluation of risks, the misassessment of risk. I think we
need to monitor that."
So some strategists think it may well be time for some
stock-taking, in more ways than one.
"The dichotomy of a low level of business confidence and
many asset markets at or close to their most risk-positive
levels - since 2007 - is stark and potentially aiding in some
near-term consolidation," Barclays warned clients on Friday.
But many caution about confusing short-term price fillips
with a more considered rethinking of potential long-term returns
in historically undervalued and under-owned equity.
That's especially so if systemic stability fears at least
have receded, leaving the perceived safety 'core' government
bonds in the United States, Germany or Britain and other euro
crisis havens, such as the Swiss franc, hyper-expensive
historically. These have all retreated over the past few weeks.
Bank of America-Merrill Lynch, whose January fund manager
survey showed the first overweight in global bank stocks in 6
years, says there might be an argument for a "pause for breath".
"It is possible we get a consolidation at or near current
levels but I don't see ingredients for
a sharp sell-off given positioning and valuations," said John
Bilton, European investment strategist at BofA-ML.
And whether or not you believe in the so-called "Great
Rotation" back to equities from bonds by long-term investors
such as pension and insurance funds, the draw of
dividend-enhanced equity returns over time is becoming more
Standard Life Investments strategist Andrew Milligan points
out that while stock markets may still be shy of pre-crisis
peaks, total return indices on the UK's FTSE 100 and S&P 500
showing market performance when dividends are reinvested hit
all-time highs last September.
And cumulative returns of 100 percent on UK equities since
the trough of March 2009 are three times that of British gilts.
"If accompanied by a wider acceptance that some of the more
arduous repercussions of the global financial crisis are fading,
these total return indices may signal the start of a more
important shift in the post-crisis return environment," he said.
But where do markets go shorter term?
One of the reasons for the January burst of life is that
many of the potential new-year pitfalls never materialised.
The U.S. budget showdown has been defused for now and
deadlines keep getting put back. The earnings season has been
benign so far, despite an outsize reaction to Apple's results
this week. And Europe's sovereign funding worries have proven
wide of the mark to date too. Buyers have flooded back to Spain
and even bailed-out Ireland and Portugal.
China's economic data confirms a decent rebound and global
business surveys suggest about a 3 percent annualised growth of
industrial output in the current quarter, according to JPMorgan.
So what can go wrong? A glimpse at the calendar would tell
you to watch out for next month's Italian elections. But the
buoyant performance of Italian debt markets this year suggest
some comfort with the most likely outcomes there at this stage.
The biggest market hurdle is the likely over-inflated
expectations themselves. Citi's U.S. economic surprise index
-measuring data that's above or below consensus forecasts -
tipped into negative territory this week for the first time
since last summer despite a broadly positive slew of reports.
For many, the index speaks more about the scale of rising
expectations - typically discounted into market prices - than
any threat per say to the real recovery.
Even though the converse is true for the euro zone,
suggesting consensus gloom was overdone, the fuel of positive
"surprises" is important even if long-term strategic buying
limits any price retreat.
The start of the fourth quarter earnings season tells a
story too. With almost a quarter of the S&P500 firms reported,
the numbers showed 68 percent beat forecasts - ahead of the 65
percent average of the past four quarters.
While market euphoria based on expected earnings growth of
less than 3 percent seems odd, eyes remain on persistent double
digit growth forecasts for 2013 as a whole. And if that seems
fanciful, there's at least the hope that near zero growth in the
third quarter of last year was the nadir for the cycle.