Changing times - but how are the markets being impacted?

Last week sterling rose strongly on the hope that a Brexit deal could be achieved

WE continue to live in interesting times. Last week the financial headlines were dominated by the US/China Trade War and by the increasingly complex Brexit situation in the UK. Although markets have reacted to developments in both, they have not been completely dependent on such events. So how important are they really in relation to the stock markets?

Looking at the trade war first, this has been rumbling on for several months and yet both US indices, the Dow Jones Industrial Average and the S&P500 are near their all-time highs, seemingly relatively unconcerned with the on-going dispute. There have been numerous headlines every time there is any sort of development, but the reality is the terms of the agreement are as yet unspecified and therefore the way ahead is far from clear.

In terms of the impact this is having on the global economy, policy makers and economists may be overplaying the reality: it is only one of a number of factors which affects this. In fact, the disagreement is only a small part of a bigger issue: the inexorable rise of China in the world order.

As things stand now, the third quarter earnings season is almost upon us and a close look at this is not particularly encouraging. Earnings are set to fall for the third consecutive quarter, the longest streak in more than three years, with the energy and tech sectors expected to be the worst hit.

The strongest driver behind economic growth has been the American consumer, helped by falling unemployment and rising wages. There are now signs, however, of a shift out of equities and riskier corporate bonds and a move into higher quality bonds.

The UK is on a political knife-edge. We are undoubtedly in uncharted territory, with the government without a majority and facing an almost impossible deadline. Last week there was hope that a deal could be done, but it is a road fraught with difficulties and time is running out.

Last week we saw sterling rise strongly on the hope that a deal would be possible, but the stock market has been surprisingly calm in the face of so much uncertainty.

As with the US, we have seen shares slip slightly and gilt yields fall, indicating either more pessimism about economic growth or more reluctance to take on risk. There has been much said about the rotation from momentum (growth) stocks into value: deep value stocks are usually a barometer of investors' expectations of short-term growth prospects – if they hold up while the more highly rated stocks fall, it generally indicates that investors are comfortable with growth prospects, but more risk averse.

This is a reasonably positive market indicator. We are also approaching the time of year when equities traditionally do well and the dividend yield on the FTSE All-share index remains comfortably above its long-term average. These factors combined give grounds for some optimism, but the influence of the US market should not be underestimated and any downturn there would be hard to avoid an impact in the UK and Europe.

:: Cathy Dixon is a partner at the Belfast office of Cunningham Coates Stockbrokers. This article does not constitute a recommendation to buy or sell investments and the value of any shares may fall as well as rise.

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