Those of us of a certain age are likely to remember the Corona soft drink ad campaign way back in the 1970s and 1980s, where “every bubble's passed its fizzical”.
I’m reminded of that given recent events and the fact that the coronavirus appears to have knocked the fizz out of what has been a very long bull market in stocks. The sharp declines in equity markets in the last week have turned investor sentiment on its head in a fashion that is almost schizophrenic in nature. From the unshakeable optimism seen at the beginning of the year, investors have done a complete U-turn, switching from excessive optimism to outright pessimism in less than a week.
US markets in particular have managed to defy the laws of gravity since 2016, along with the Nikkei 225, on a combination of activist central bank policy of low interest rates and asset purchase programmes, as well as some modest growth across the global economy. This could never go on for ever, although there was a feeling that whenever markets hit a rocky patch there was a "central bank put", which could act as a ready-made market stop-loss.
When it comes to stimulus programmes to stimulate economic activity in the form of cheap loans and tax cuts, as was enacted by the US administration in 2017, this generally always prompts an economic uplift. It’s certainly a process that has worked well for the last 11 years since the lows of March 2009, when it comes to gains in stock markets.
The chart below gives us a decent indication of how the various key stock market benchmarks have performed in the aftermath of the eurozone debt crisis, with the performance of the FTSE 100 a significant disappointment, when compared to its peers, given the weakness of the pound.
Stock markets benchmark performance - last 7 years
Source: CMC Markets
What tends to get overlooked is that the FTSE 100 is not a total return index, unlike the DAX, which is, and thus skews the outperformance in its favour, while the Nikkei 225 has had the Bank of Japan buying equity ETFs, which has helped boost its performance.
In the last few days this easy money process looks to have met its match in the form of the coronavirus, at a time when central banks are already at the limits of what they can use in their monetary arsenals. Further cuts in rates and other stimulatory measures are all well and good, but when faced with a pandemic that could turn into an epidemic, they appear to have met their match with chilling consequences for the global economy. A lot of the economic impact of the virus, with respect to the quarantines, travel bans and restrictions, will result in lost output, which may never be regained, not to mention any damage to short-term consumer confidence if this state of affairs continues into Q2.
The global consumer has been the one remaining pillar that has sustained the global economy these past 12-18 months, and recent events could well knock this pillar away for at least the next 6-9 months, not to mention the disruption to global ports, supply chains and consumer confidence, which is likely to take time to repair. Given the speed of recent declines there is some nervousness on the part of investors as to the timing of when to start putting money back into the stock market.
This is a tough call, but given the length of the upswing over the last 11 years, there is a school of thought that we could have quite a bit further to fall, with the big question being by how much.
Beginning with the FTSE 100, recent falls have seen us slide back to one-year lows and a key area of support, but crucially still in the uptrend we’ve been in since 2009. However, if we fall much further we could start to approach some key support levels starting at 6,500, and with US markets more bulled up on steroids than the rest of the market, any collapse there will drag the rest of the world with it.
Recent warnings from Microsoft and Apple are likely to just be the start, and given that tech has led this rally over the last few years it could well be tech that causes further declines. Looking at the S&P 500, you can immediately see how over-extended it is with prices now approaching the 50-week or 200-day MA, currently at 3,050. Even with the recent declines we are only back to where we were last summer.
The bull market black trend line from the 2009 lows is even further away at 2,400, so there is scope to fall a lot lower if confidence really implodes. Whether the US Federal Reserve would allow that to happen is another matter, ditto the US government in an election year, but nonetheless it gives you an indication as to how high we’ve come in the last 11 years, with the tech sector driving most of the gains.
US SPX 500 weekly chart
Source: CMC Markets
As far as the FTSE 100 is concerned we are in touching distance of the trend line from the March 2009 lows which also coincides with the lows seen in 2018 around the 6,500 level.
This is likely to be a key support zone in the short to medium term, after we broke below the psychologically important 7,000 level earlier this week.
UK 100 weekly chart
Source: CMC Markets
It is also important to note that the FTSE 100 has traded in a fairly predictable range over the past 3 years or so, never falling too far, or rising too fast. This stability will inevitably induce the familiar refrain that the FTSE 100 is now back where it was at the beginning of the century.
It certainly is, but it is a completely misleading comparison borne out of ignorance. It is a significantly different beast now than it was then, and as stated previously it is not a total return index. If you look at the FTSE 250 it's quite a different story, and this index has more than outperformed its bigger brother.
Moving on to the DAX, which is a total return index, we’ve also seen out performance here, and again we are on the cusp of approaching some key support areas. Firstly we have some support at around the 12,000 level, where we have the 200-week MA and just above that support from the 2018 lows.
Germany 30 weekly chart
Source: CMC Markets
This is likely to be a fairly solid area of support, and as can also be seen, the gains in the last few years show that the longer-term trend line from the 2009 lows is way back down near the 10,000 level. What this tells us is that while these sharp declines are disconcerting, they are still well above the levels we were at a few years ago.
It is also important to remember that one of the reasons we are seeing so much volatility is that 11 years into this particular bull market, there is a whole generation of equity market traders who have never experienced a full-blown stock market sell-off. As Sir Alex Ferguson once famously put it – it's "squeaky bum time".
Alternatively investors could look at gold prices – they could well be up at $1,800 an ounce by year end, or even before that, if we continue to see sharp falls in stock prices, as this will likely prompt additional rate cuts by the US Federal Reserve. The US dollar is probably one of the only currencies that gold hasn’t made a new record high against over the past few years.