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Stock market dip: Should you panic?

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14/10/2014
Stock markets have dipped worryingly over the past month. Is this a temporary blip? Or the start of something more sinister?
Stock market dip: Should you panic?

The FTSE 100 is down from 6,838 on 19th September to 6,392 today (14th Oct), a drop of 6.5 per cent. This wipes out all of investors’ gains since the start of the year. The average UK All Companies fund has now slipped 5.4 per cent for the year to date.

The immediate reasons for the crash are not obvious. Certainly, growth in the Eurozone is anaemic, Chinese economic fortunes are mixed and October has historically been a tricky month, but none of these three factors would usually be enough to prompt a serious sell-off.

James Calder, head of research at City Asset Management, says: “It is difficult to see a fundamental reason for the pull-back in markets. The world is a better place than it was a couple of years ago. While we can never know where shocks will emerge until they happen, there doesn’t seem to be anything to be overly concerned about.”

For his part, he is positioned with the most risk across his portfolios as he has held in the past five years, holding more in stock markets such as the US and Europe and less in ‘safe haven’ assets such as government bonds.

For Stephanie Flanders, chief market strategist at JP Morgan Asset Management, the Eurozone remains a real risk. If it succumbs to deflation, it will drag down all its major trading partners, including the UK and US. “It is very difficult to grow your way out of debt,” she says. “We are nearing a crunch point in the Eurozone that could see it turn around or sink lower.”

That said, she still believes that Europe will avoid recession, but will remain more vulnerable to economic shocks until recovery is established. For the time being at least, she believes the UK and US can continue to make progress, which should be supportive for equity markets.

However, there are some factors that would suggest that the recent sell-off might be more permanent. For some time, stock markets have been seen as the least bad option for investors. Valuations were fair value to high, but were a whole lot better than bonds. This implies that stock markets are not particularly attractive on their own terms and therefore may be vulnerable to a sell-off.

Certainly stock markets have risen, almost uninterrupted, for five years and that has largely been on the premise that the global economy would get better. As Germany slashes its growth forecasts, and Japan’s monetary policy fails to ignite growth, economic expansion no longer looks like a certainty.

Tom Beckett, chief investment officer at Psigma Investment Management takes a middle ground: “We do not believe that this latest correction marks a change in the medium term direction of equity markets or the death of the Bull Market. However, there are elements of this latest sell-off that could mean that it is longer lasting and more destructive than previous episodes.”

He highlights three problems: Europe, because no-one currently believes that the ECB will successfully reflate the European economy; the US, because it may not be able to grow in the face of weaker activity in other parts of the world; And finally the ‘whiff of deflationary pressures that we are seeing across markets’ – a lower oil price, for example. However, he believes that steady if unspectacular growth remains the likeliest outcome for 2015, at around 3.5 per cent.

He also points out that he is far more comfortable with valuations at these levels. Investors that were cheerfully buying when the FTSE 100 was at 6,800 and above, should be pleased they can now pick up the same assets for around 6 per cent cheaper. There are concerns, undoubtedly, but it is not the time to panic.

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