An independent professional's take on the latest news and trends in global financial markets

New Year hopes

My suspicions back in the autumn that a market rally was on the way have, I am happy to say, been borne our by events. Not for the first time, the peak of rhetorical despair – this time about the dire outlook for the world economy should the Eurozone crisis not be resolved – has turned out to be the moment to turn bullish. The rally since the failure of the Cannes summit has been impressive.

The MSCI world index is up by more than 20 per cent since its October low and has risen for seven straight weeks in a row, something that has not happened since the spring of 2009, according to the equity strategists at Societe Generale. Equity markets have made an even stronger start in 2012, with January producing one of its best monthly returns for many years. Contrarian sentiment indicators, such as the venerable Investors Intelligence survey of investment advisors in the United States, once again proved invaluable in identifying a turning point back in the autumn.

Three factors have been weighing heavily in favour of an equity rebound – evidence of an improvement in the United States economy, the three-year lending initiative of the European Central Bank under its new Governor Mario Draghi and valuation support for equities. These have proven to be more powerful than the continuing warnings of dire consequences from all sides about the failure of the leaders of the Eurozone to agree a permanent solution to the problems of the single currency.

One thing that has certainly changed for the better in 2012, as fund manager Bruce Stout pointed out at the annual Winterflood Securities investment trust conference the other day, is that realism has replaced fantasy in discussions of the future of the Eurozone. We no longer have to live with the fantasy that Greece (and less certainly Portugal) can stay in the single currency indefinitely. The bond markets are still worrying about deflation and the risk of a messy collapse of the euro, but such an outcome is now in the price, as opposed to being the outcome that dare not speak its name, as it was before.

For all this positive movement, we have yet to see any significant return of risk appetite in the professional investor community. A market rally which is driven by things not getting even worse is not the same thing as a strong bull market driven by rising investor confidence and backed by the deployment of hard cash. The rally has been on thin volume and some fund managers will have been chasing the rally for fear of being left behind. The markets for most risk assets have become oversold in the short term, so there is bound to be a pause for breath soon.

Those fund managers such as Sebastian Lyon, CEO of Troy Asset Management, who have prrofited from their cautious stance in recent years are right to point out that we are still a long way from being out of the woods of the global debt crisis. He suspects we are due for one more market crisis – which could come from the Eurozone, the Middle East or from a direction as yet unseen – before we can start to think about an enduring new bull market and this may take another 2-3 years to materialise.

He told a meeting of fund shareholders last week that he won’t be selling any of his substantial holdings of gold until there is a sign of an end to the current cycle of negative real interest rates and global currency debasement.  History tells us that debt crises typically produce up to a decade of slower economic growth. Investors have rarely got rich in the longer term by buying shares when the market, as it is now, is yielding little more than 3%

That is my view too. However short term market dynamics are driven by shorter time horizons than that, so this year could well turn out quite well in the end for those prepared to sit through the inevitable next round of crisis, or trade through the next phase in the shorter term market cycle.  If you buy into the fashionable argument that we are going throuugh a period of sideways moving markets – but with violent oscillations around the mean – then it makes sense to take advantage of clear-cut trading opportunities as and when they arise. Buy and hold won’t get you very far.