Macro views

Is the market due for a fall?

Macro Update 19 October 2020
Oktober 2020

Steven Bell

Managing Director, Portfolio Manager & Chief Economist, Multi Asset Solutions

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Risk Disclaimer 

Past performance is not a guide to future performance. The value of investments and any income derived from them can go down as well as up and investors may not get back the original amount invested.

The information, opinions, estimates or forecasts contained in this document were obtained from sources reasonably believed to be reliable and are subject to change at any time.

 

This week, I’ll be discussing company profits, progress on the virus and Brexit, with a view to working out where markets are headed next. I should add that readers of a nervous disposition should brace themselves – we might be in for some scary times.

 

Q3 earnings season could be another boost for markets…

Let’s start with the good news. As we suggested last week, the reporting season for US company profits has been positive. 50 companies have reported their results for Q3 and almost all have beaten estimates, by a healthy margin. Sales were over 3% better than expected and earnings beat by an impressive 22%. That’s massive. And although we can’t expect the final tally to come in quite so strongly, it seems clear that the end result will be a very strong earnings season. Yes, the estimates going into the reporting season were terrible – a big decline compared with a year ago – but it’s results relative to expectations that matter, and it could be a big support for equites. The S&P 500 troughed as the Q2 earnings season began in early July and it now stands some 10% higher.

 

…but this time it’s different

First, investors were nervous back then. Indeed, some of the earnings forecasts by highly regarded analysts were little short of cataclysmic. Having been slow to appreciate the scale of the pandemic, many investors thought it would never end as the US suffered a serious second wave. Medical science seemed incapable of dealing with the disease.

Today, there’s a great deal of complacency. I’ve made much of the prospect for a vaccine, something that could defeat the virus quickly. Back in July, few investors believed a vaccine could be with us by year-end, but today that view seems much more likely. With half a dozen vaccines in late Phase III trials. And that’s my worry – back in July, risk-reward seemed attractive; negative news on one of the vaccines would have been disappointing but few were pinning their hopes on it so the downside would have been limited. Today, there is much more optimism priced into markets.

 

Flash PMIs could spell bad news

And then there’s the data. We’ve had months of better-than-expected data in the US, and elsewhere. Just as forecasters were slow to appreciate the scale of the downturn in the spring, so they were slow to appreciate the scale of the rebound. And I think the next few weeks could see that pattern repeat itself, with signs of a double dip in the world economy. Towards the end of this week, we get flash estimates of the Purchasing Managers’ Indices (PMIs). These closely watched data give the best indications on how the second waves of the virus are affecting the real economy. And I expect bad news. Services could fall back in the US and dip below 50 in Europe, which signals contraction in output. These numbers, together with the more established ISM numbers in the US, feed directly into analysts’ estimates of future earnings. And the virus numbers have been bad and we can see the effects on some of the high frequency data on mobility – reservations at restaurants and so forth.

If we get some bad results on Phase III trials, and if I’m right about the PMIs, we could see a setback of 5% or more. Would that mark the beginning of a new bear market? I don’t think so, because the odds really do favour medical science to defeat this virus. I’d just be happier if the markets were less complacent, I’m much happier when they’re nervous and easy to be positively surprised.

 

Boris fishing for a better Brexit deal

Let’s end with a look at the UK, where Brexit is back in the headlines. As we’ve said many times before, the odds favour a deal even though politics and the need for both sides to claim that they’ve won much and conceded little, mean that the risk of an accident are great. But Boris wants a deal and he has convinced the Europeans that he is prepared to go for No Deal if necessary – something that Theresa May never did. The EU wants a deal too, so they’ve been raising the stakes, and one way is to offer a better deal. The EU have made concessions on rules of origin and data adequacy. These may seem technical and obscure, but they are very important. Vastly more important than fish – at least in economic terms. If Boris does pull off a decent deal, it will be quite an achievement.

 

 

Risk Disclaimer

Past performance is not a guide to future performance. The value of investments and any income derived from them can go down as well as up and investors may not get back the original amount invested.

The information, opinions, estimates or forecasts contained in this document were obtained from sources reasonably believed to be reliable and are subject to change at any time.

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