Global equities fell back 2% last week, reversing their gains of the previous week and continuing the choppy pattern seen over the last month.
The key to the market’s direction at the moment is the strength of the economic recovery underway now that lockdowns have been relaxed.
Business confidence has improved markedly in the last couple of months, with the purchasing manager indices in the US, UK and Europe all significantly stronger than expected in June. Even so, business is far from breaking open the champagne. Rather than saying conditions are actually improving, it is merely saying they are not half as bad as they were earlier in the year.
Indeed, the latest IMF forecasts make for sober reading. It now expects the global economy to contract 4.9% this year, up from its April forecast for a 3% decline. This compares with a fall of a mere 0.1% in 2009 in the global financial crisis. As regards to the recovery, even by the end of next year, output in the advanced economies is forecast to remain below levels at the start of last year.
This muted rebound is rather different from the rapid V-shaped affair which until recently equities had been placing their hopes on. However, the market is no longer as confident in this rosy scenario as it was a few weeks ago, with global equities now off around 5% from their high in early June.
The main reason for the reappraisal is the recent pick up in Covid infections in a number of countries where lockdowns have been eased. Renewed outbreaks in Beijing, Berlin and, rather closer to home, Leicester have left markets a little more wary. But the main concern last week stemmed from the upturn in infections being seen in a number of states in the US, including Texas, Florida and Arizona where lockdown restrictions have been relaxed fastest.
None of these outbreaks at the moment seems to threaten a wholesale re-imposition of lockdowns. But they have served as a reminder that social distancing, along with fear of catching the virus, may hold back consumer spending for a while yet.
All this leaves us remaining somewhat cautious on markets over the next few months. Economies should continue to recover, just not at the pace the market are pricing in with equity valuations back up to the highs of the last couple of years. Only an early roll-out of a vaccine holds out the prospect of a fast return to economic normality – and that remains a long shot.