As we’ve noted before, this is an aging bull market and a point at which bubbles start to form. If history is any guide, the time before a collapse can vary from some months to a couple of years.
During such periods, stocks can still produce good results with the caveat that there’s higher volatility. The issue is that no one knows the exact time until the bubble bursts.
For instance, it took the markets more than a year in the late 1980s to realize that Japan’s stock market shouldn’t represent 44 percent of global market capitalization. The technology craze of the 1990s blinded investors for more than two years before the fall.
Calling the end of the bull market may be premature. Nevertheless, there are signs that a new more challenging and dangerous phase of this bull market is upon us.
It’s been Global Top Cat’s expectation that central banks in the advanced economies will slow down their asset purchase programs drastically this year. If the economies in question handle these actions relatively well then central banks should be able to stop their asset purchasing programs by the end of next year.
Currently, these central banks are buying assets of around $100 billion per month, which is a decline from the peak reached a year ago. The European Central Bank, the Bank of Japan and the Bank of England lead the downtrend.
Later in the month, the Federal Reserve should announce a similar gradual move lower. And the ECB is expected to announce in October that it will take its purchasing program below 50 billion euro a month from the current 60 billion euro.
The major non-geopolitical risk for the global economy and markets right now is a significant fall in the value of financial assets while central banks withdraw macroeconomic stimulus.
Specifically, we’re watching how credit spreads react to the central bank moves. A rapid increase in these spreads, as a consequence of qualitative easing (QE) ending, may take markets lower. Defaults could also start to appear, especially if corporate borrowing rates increase. The result would be a credit crunch and the potential for the highly leveraged global economy to be driven into a new recession.
In other words, if the global economy proves unable to handle the withdrawal of QE, then a global economic contraction will take the stocks into a new bear market.
That said, various statistics around the world indicate that the global economy continues to be in decent shape.
The unemployment rate in advanced economies, as a whole, is below six percent, which is the lowest in the past ten years. Even the eurozone, which has historically been slow to generate job growth, has falling unemployment . The current level of around nine percent is the lowest since early 2009.
Furthermore, global economic growth continues to be respectable and broad based, with only a few laggards. And global fixed investments are steadily recovering with emerging economies leading the way. Fixed investment growth on emerging economies is around five percent, up from around two percent in late 2015.
If the above narrative proves to correct, then global markets are gradually entering a trading period. As a result, serious long-term investment decisions should be either deferred or made sparingly and carefully.
Notice that, growth trades will prove to be the winners in this last phase of the bull market. But success with them will require accuracy and agility.
Outperformance will favor strong stock pickers, as investment correlations that favored passive investment strategies break down while the bull market nears its end.
That said, the view here remains that emerging markets should continue to outperform for the rest of the year as they have done for the last eight months.
Valuations and momentum favor Asia as a whole, as does a weaker US dollar and higher rates that allow central banks relative freedom of movement.
Investors are generally underweight Asia. Therefore, many global funds are seriously underperforming. This may change if Asia continues to deliver on earnings and dividend growth.