What goes up, must come down… | Fin24
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What goes up, must come down…

Sep 20 2018 09:09
Simon Brown

The US markets recently hit a longest-running bull market ever as the markets had not experienced a single drop of more than 20% since March 2009 (when this run started). 

That is an amazing stat. 

JSE investors have seen little of this. Over the last four years, our market has added only about 10% in total, and is therefore significantly lagging the US markets. 

But it is very important to remember that, much like every bear market is followed by a bull market, so it is true that every bull market is followed by a bear market.

So, these data points raise two questions. When will the US bull market end? 

And secondly, what happens if it ends sooner rather than later? What if it takes us down with it, leaving local investors in a bear market without having had the corresponding bull market beforehand?

The answer to the second question is easy: 

It certainly is a distinct possibility and would frankly be nasty. Very nasty. 

But there is not much we can do about it, as US markets do lead the world. No market can escape a US bear. 

Furthermore, the current jitters in emerging markets could send us into a bear, denying us our full bull market quota. 

The question on when the current US bull market will end, is a total unknown. But we do have a sense of what typically kills a bull market – high interest rates.

Here, exactly which interest rates are relevant, is open to debate. But the general view is that the US 10-year treasury bonds are a good indication, and they’re currently just below 3%. 

The often-mentioned magic number to be scared of is around 4.5%. We do therefore still have a way to go, but rates can move quickly. 

And, of course, something could come from left field and make markets weaker.

There are many reasons why equity investors fear higher rates.

These include that it translates into higher cost of debt for companies; that investors are able to get decent risk-free returns by sitting in cash or government debt; and finally, that higher rates push valuations down when using the higher rate as the risk-free component in valuations. 

Watching the US 10-year rates, there are a number of issues that could drive it higher. 

Mostly, however, it boils down to rising inflation that sends the Federal Reserve rate higher – a cycle that has already started.

Inflation has been very benign in the US, but we are seeing some signs of it slowly starting to come back, with the most recent data showing wage growth inflation spiking. 

This is an important number to watch as wage inflation leads to either higher prices at the store or smaller margins if companies try to absorb the inflation. 

That wage growth will also see workers spending that extra money, leading to overall consumer inflation rising.

This could send the Fed rate higher, which will result in a higher 10-year rate, and hence the end of a bull market.

While the next bear market is definitely coming, it’s just the when that we have no idea about. 

It could be starting as you’re reading this, or it could be years away.

Another important point is a market crash as opposed to a correction. The difference between a market crash and a correction is the speed and size of the selloff. 

A crash happens from an oversold position. An oversold position is a technical term, but essentially means that markets would already have sold off and be markedly weaker. 

Buyers then capitulate and turn into sellers – and that’s when you see a crash. 

Will this bull end in a bear or in a crash? And when will this happen? 

I have no clue, but as always, worrying about it doesn’t help. Own quality stocks and know what’ll make you sell. And keep buying your exchange-traded funds regardless. 

This article originally appeared in the 27 September edition of finweek. Buy and download the magazine here or subscribe to our newsletter here.

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