A look at global equity indices for October...
Global equity indices have been on a bullish tear for the month of October. The S&P 500 is on track for its longest winning streak this year growing approximately 8% as the markets kick off a lackluster earnings season. Similarly, global equity markets have surged despite the weakness in economic data. The combination of high equity valuations against flat to negative corporate earnings can be explained by the markets betting on higher stimulus by central banks across the world, including Japan, China, and the European Central Bank.
Japan is facing fears of a recession after their GDP shrank in the second quarter of this year. The root cause of their economic woes is a fundamental demographic problem of their working population shrinking at an alarming rate. A bright spot for Japan is their modest reversal of a trade deficit to a surplus in September. It seems that Japan’s Abenomics measures have been more effective than previously perceived. Either way, Japan will continue to be embroiled in further stimulus that will keep the Nikkei soaring in the short run.
China announced that their economy grew by 6.9% for the third quarter of 2015, which marginally surpassed expectations of 6.8% but shy of their 7% target. Despite the slowdown in China’s economy, measured by weaker factory output, we see that the Hang Seng and Shang Hai Composite indices are trending upwards away from their August and September troughs. The deceleration in China’s economy is representative of a shift in their economy towards consumption and technology, away from manufacturing. With room to cut rates in China further, the expectation for even more stimulus from the People’s Bank of China is increasing steadily. As China’s monetary easing continues, the equity markets will continue thrive from the additional capital flowing away from lower yields.
The story in the Eurozone reads similarly, with the ECB’s governing council meeting in Malta to discuss even more economic stimulus. The current trillion euro bond buying program is slated to end in September 2016 but deflationary pressures and an appreciating Euro are making a case to extend the stimulus even more. Given that the most prominent threat to the ECB right now is a global slowdown, Mario Draghi has adopted a “wait and see” stance to gauge the effects of the emerging market slowdown and the actions of the US Federal Reserve.
So with the backdrop of sluggish economic growth and central banks pushing stimulus policies down the pipe, the party will continue to rage on for the equity markets. However, the theme of bad news as good news for the equity markets is far from exciting. In the short term, we can expect the equity markets to remain volatile with a bias towards the downside. For investors with a longer time horizon, now would be the time to pick up undervalued, high quality stocks that will be well positioned for the larger global economic recovery.