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Why We Don’t Set Clocks By Market Cycles

Posted Oct 20, 2017, 01:40 PM | By Patrick Ercolano

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It’s closing in on 10 years since North American markets tumbled into the financial crisis of 2007–2008. Today, as U.S. benchmarks flirted with record highs, it’s reasonable for investors to ask if we might be nearing the end of another cycle—can a bull market continue to run over this length of time?

The easy answer is that market cycles don’t follow timelines—especially viewed from a global perspective, not just a North American one.

Global markets don’t run on preset schedules

In Europe, investors have lived through a double-dip recession over the last 10 years, with markets only just recovering since 2012. The cycle there has run five years.

Japanese investors are on a whole different timescale. While Japan’s equity market has recovered quite strongly since 2012, it still has not reached the highs seen in the late 1980s. That’s nearly 30 years, and counting!

On the whole, underlying factors look good

A more complicated answer is that, ultimately, markets are powered by the interplay of economic fundamentals—growth, earnings, interest rates, and so on. For the most part, we see conditions that continue to be supportive of global equity markets.

Economies in the Eurozone have finally found good footing and we believe this growth path is sustainable, with political risk subsiding.

On the U.S. side, we see limited potential of a recession over the next 12 months. Stronger corporate earnings are supportive of the market’s high valuations.

Globally, interest rates have risen, but at a very moderate pace. Inflation has increased globally over the past year, yet remains largely below central bank targets. We anticipate tightening led by the U.S. Federal Reserve will continue to be slow and measured.

One major difference today, compared to last year, is that other central banks have started to move away from emergency policy measures implemented since the financial crisis. Two Bank of Canada rate hikes this past summer, for example, helped the Canadian dollar rally against most currencies, especially the U.S. dollar, diluting the performance of foreign equities for Canadian investors.

Structurally, fixed income yields are still very low. This supports our positive view on equities, where we’ve seen broad improvements on earnings over the last nine months, across countries and sectors.

Why we keep a diversified view on the world

If Canadian markets—and portfolio returns—seem out of step with the U.S. bonanza, our nation’s stock market performance has lagged global counterparts most of the year due to factors from energy prices to relatively weak stock valuations.

Over the past quarter, we’ve seen synchronized economic expansion that supports equity performance and growth at home and abroad, not just in the U.S. There’s also been a rebound in emerging market equities, after a few years of below average performance.

Back to that bull: a slower pace, rather than a market reset?

This particular bull has run through Brexit, Tweetstorms, multiple natural disasters, terrorist acts, fake news and an ongoing nuclear threat. Whatever unpredictable events can derail them—or not—markets tend to adjust themselves to levels justified by underlying economic fundamentals, over a 12 month period. 

As fundamentals remain on solid ground, we believe equity markets should continue to outperform fixed income for some time to come, although double-digit stock index returns may be in the rear view mirror. 

Patrick Ercolano

Patrick Ercolano, CFA, MBA, is a Portfolio Manager with the Investment Strategy team at MD Financial Management. He oversees strategic and tactical asset allocation mandates, alternative investment mutual funds and is a member of MD’s Tactical and Risk Allocation Committee.