I don’t think any of us should be terribly surprised by today’s market sell-off.
Markets were already looking a bit overbought. Why?
Here’s a nice summary from Deutsche Bank in New York from their fund flows team. The bottom line – markets were overbought in the short term. We should expect a sensible 3 to 5% pullback in the next few days.
“Two weeks ago we noted that equity positioning had become very stretched. Since then it has risen further (98th percentile) and is just a touch under the January 2018 peaks. Across indicators, equity futures long positioning has continued to rise to new records, call volumes have surged to the highest since October 2018, and sentiment indicators are at the top of their historical band. Over the last 3 months, equity funds have also seen inflows of $75bn, the strongest since early 2018, with cyclical sectors being big beneficiaries, especially Tech, Financials and Industrials.
Pull backs of 3-5% in the S&P 500 have been typical every 2 to 3 months historically. The last such pull back occurred in early October. At over 3 1/2 months, the duration of the rally since then is already well above average (86th percentile). Rallies longer than 3 1/2 months become increasingly rare and if the current one continues for another 2 weeks it will be in the top 10% by duration. At 15% (83rd percentile), the size of the rally is also larger than the historical average between such pullbacks (+10%). These pullbacks have generally required a catalyst but tended to be exacerbated by stretched positioning, such as in 2018.”
The news coming out of China, terrible though it is, probably was just icing on the cake for the bears. For a good summary of the investment implications of the virus, CheckRisk, a consulting firm out of Bath, sums it up nicely:
“ 1) Disruption to the Chinese economy generated from the travel restrictions now in place. Wuhan in a major distribution hub.
2) The impact to insurance companies cannot yet be estimated, however, patient costs, and high mortality rates will have an impact if the virus continues to spread. The insurance sector, for the most part, remains weak as a result of over a decade of low or negative interest rate yields.
3) Market closures, it is possible in the case of a spread of the disease to major markets such as the USA, UK, Europe and Japan, that financial markets will be forced to close.
4) Estimates of the cost of SARs (the last pandemic) to the global economy range between $35bn to $45bn. At present the Coronavirus looks more virulent and thus dangerous than SARs.
5) The impact to the global economy could range up to a full one percent on GDP, and more if the Coronavirus is as serious as it appears to be.
6) Expect the Chinese stock market to react first, however, we would not be surprised to see traders begin to mark stocks lower in the coming days. “
As I say in my Citywire column today, my own sense is that with a tailwind, the virus will blow away in the next few weeks and then we’ll be back to yet more monetary stimulus.
My sense is that there are plenty of medium-term drivers pushing equities much higher. These include central banks stuffing ever more debt into the pipes; stabilizing global economy; trade talks; Europe slowly recovering. And there’s one other tailwind. Dividends. Throughout the developed world, corporate cashflows are still surging, and dividend payouts are still increasing.
That’s certainly the case in the UK the Link Group have just released their latest Dividend Monitor which shows that local equity payouts hit a new record in 2019.
“They rose 10.7% in headline terms to £110.5bn, in line with Link’s forecast for the year. This is more than double the level they reached a decade ago. To put this huge sum into context, for every £20 invested in the UK stock market at the beginning of 2019, investors earned an average of £1.02 in income from their shares. Link Group UK Dividend Monitor – Tracking the UK’s dividends”.
Here are the details on that record pay-out from UK corporates:
- UK dividends jumped 10.7% to a record £110.5bn in 2019, boosted by an exceptionally large £12.0bn of special dividends
- Underlying dividends (which exclude specials) rose just 2.8% to £98.5bn, the slowest increase since 2014
- On a constant-currency basis, underlying growth was just 0.8%, once FX gains were excluded, the slowest since 2016
- The big engines of dividend growth over the last three years – miners and banks – are less likely to propel dividends in 2020
- The stronger pound and likely lower special dividends will also depress growth
- Link forecasts headline dividends to fall 7.1% to £102.7bn in 2020 and underlying payouts (ie excluding specials) to fall 0.7% to £97.9bn, equivalent to an increase of 1.1% on a constant-currency basis
- UK shares are set to yield 4.1% in 2020. The top 100 will yield 4.2% and the mid-caps 3.0%