Curmi & Partners

A Necessary Evil

By Robert Ducker

The equity market volatility has been muted in the aftermath of the financial crisis. This relative calmness could be attributed to a number of different factors, but in my opinion this was mainly driven by the actions taken by Central Banks to stabilise the market. This inspired investor confidence, leading to a one-directional move to record high levels. Despite a number of events that could have severe repercussions to equity market prospects such as the Brexit referendum in the United Kingdom held in 2016 and elections held in the United States, France and Germany, volatility measured by VIX kept on falling to unprecedented low levels.

All good things eventually come to an end, and this is exactly what happened to equity market volatility. Financial markets have experienced a drastic change in mood following an explosive start to the year that saw the S&P 500 index gain 6% by the end of January. The S&P 500 index then lost just under 9% in the first eight days of February with volatility rising fourfold thereby bringing to an abrupt end the euphoria that had taken over the market at the start of 2018. As selling pressure increased, there was a distinct difference in opinion between those investors who gauged the equity market prospects based on the macro outlook and those who focused on micro. The former had little to worry about, with the outlook for the global economy solid notwithstanding any exogenous events. Investors focusing on micro, more specifically on fundamentals, were not quite as sure with stock market valuations screening as expensive on a number of different traditional valuation metrics. In reality equity market volatility is normal and to be expected.

 

The surge in volatility took investors by surprise. However all those that have been following the equity markets for a number of years, at least since 2008, will admit that volatility is normal, with prolonged periods of low volatility increasing the potential for corrections. This is especially true when considering where we are in the cycle.  The current bull market has been one of the longest and strongest bull markets in history. We are now late in the cycle which is generally characterised by upticks in volatility. This does not necessarily imply that the bull market is over.

The macroeconomic indicators are still looking solid, despite some weak data published in Europe earlier this year, which were mainly a result of a number of temporary factors (like an unusually cold winter). The relative weakness in the equity markets during February and March has provided investors with the opportunity to carefully select stocks at cheaper while the economic backdrop has so far been largely unchanged. 

The information presented in this commentary is solely provided for informational purposes and is not to be interpreted as investment advice, or to be used or considered as an offer or a solicitation to sell/buy or subscribe for any financial instruments, nor to constitute any advice or recommendation with respect to such financial instruments. Curmi and Partners Ltd. is a member of the Malta Stock Exchange, and is licensed by the MFSA to conduct investment services business.