Trader’s thoughts – global stocks post worst performance since 2008

The final day of the year:

The final trading day of the year ended in a generally positive return for global stocks. But it was on low volumes, little material difference in the market-narrative, and capped off global equity’s worst month since the GFC. The year of 2018 belonged to the bears, it now seems, even despite the numerous records that fell on Wall Street. Across the major indices, the S&P500 found itself 6.24 per cent lower for the year, the FTSE 100 was down 12.48 per cent, and the DAX closed 18.26% in the red. Furthermore, in what comes as little surprise given the geopolitical backdrop, Chinese equities were among the worst performing, finishing well in bear market territory with a 25.31 per cent loss for the year.

ASX’s 2018:

The ASX 200 fared slightly better on the surface, although that may have in some way been supported by a much weaker Australian Dollar. The ASX200 was off 6.90 per cent in local currency terms, but when adjusted for currency fluctuations and denominated in US Dollars, the local index lost 15.93 per cent for the year. Somewhat unlike our US counterparts, ASX growth sectors remained the best performing for the local market: the healthcare sector, led by biotech giants like CSL, held onto 17.33 per cent returns in 2018, while the smaller information technology sector registered a more modest 5.50 per cent gain. Tellingly for the ASX200, the heavy-weighted materials and financials sector were off, with the latter shedding 14.78 per cent for the year.

The Return of Volatility:

If the year had to be summed-up in a neat phrase – perhaps in the spirit of a B-grade, straight to DVD horror movie sequel – it might be The Return of Volatility. The trend has been pointing this way for several years, however last year exhibited arguably the first signs of how markets will from now on behave in the post-easy-money-era. The VIX closed on Monday at a more subdued 25.42, having pulled back from the 36-mark earlier on in the week. Some peace and quiet – or at least as much as we could possibly get from the Twitterer in Chief – helped settled some nerves, especially as it relates institutional instability in Washington. However, with less liquidity in the system, choppy trade like we saw in 2018 will likely remain the norm.

The Fed’s US economy:

It’s because of the US Federal Reserve that all of this is so, and any big-picture predictions for 2019, as futile as they often can be, must be rooted in an assessment of Fed policy. The Fed hiked 4 times last year, as a red-hot US economy, galvanized by tax cuts and end of cycle activity, delivered to the central bank the fundamental data they long craved. The labour market in the US is still incredibly tight, with the unemployment rate holding strong at 3.7 per cent, annualized growth above-trend at 3 per cent, and inflation finally hitting the 2 per cent mark, supported by a long-awaited lift in wage growth. With these number, the US economy, diverging from the rest of the global economy, was as strong as its been for a decade.

The trouble ahead:

The problem is now, as is often stated, is that financial markets are forward looking. Not necessarily perfectly predictive, but a forward-looking indicator nevertheless. Herein lies the issue for economic fundamentals and stock-market bulls: price action is pointing to an economic slow-down and a more dovish Fed. In a fitting end to trade on the market’s final trading day, the yield on benchmark US 10 Year Treasuries fell to 2.68 per cent – its lowest level since late-January last year. Much the same occurred across the curve, keeping the inversion across its belly, as interest rate traders priced out all but 2 basis points of hikes from the Fed in 2019 – and more concerningly, continued to price in rate cuts from the central bank in 2020.

A growth slow down:

The prospect of a recession in the next 12-18 months is being partially priced in, making markets more susceptible to heightened risks in other parts of the global economy. The theme for the start of 2019 is how do markets respond to the dual issues of a growth slow-down coupled with tighter financial conditions. From this basis, the second and tertiary geopolitical concerns relating to the trade-war and Chinese growth, along with Brexit, take on a greater significance. For those with an interest in economic prosperity (who doesn’t?), any extra drag on a global economy already feeling the pinch from a cyclical slow down and tighter financial conditions is highly unwelcomed. The dynamic will drive traders surely to avoid risk if neither issue can be properly resolved, with safe havens to be sort and risk assets abandoned.

Australia in 2019:

Because of its composition, the ASX 200, although not having to shed the froth of inflated assets prices from years of lax-monetary policy, could well find itself fighting against the tide in the year ahead. The simple logic is this: tighter global financial conditions will hurt the banks, and a weaker global economy will hurt the miners. There’s 50 per cent of the ASX 200 facing an uphill battle already. The Australian Dollar could face its own headwinds if these challenges don’t abate: resilient for now, slower global growth and the increased prospect of an RBA rate cut could see the A-Dollar explore the high 60’s. In the day ahead, SPI Futures are indicating a 46-point drop for the ASX, with the technicals revealing an ominous bearish shooting star – signs that the latest rally in the index is about to be faded again.