‘Some old wounds never truly heal, and bleed again at the slightest word.’
George R R Martin, A Game of Thrones
I’m a big fan of the A Song of Ice and Fire fantasy novels, the source material of HBO’s Game of Thrones.
The story centres around the Iron Throne, and the power struggles between the noble houses of the realm who are all pining for possession of the throne. Whoever has the throne controls the Seven Kingdoms.
The Iron Throne is made of 1,000 swords won from fallen enemies. The knives along the back make it impossible to physically — and emotionally — get comfortable in it.
The thing I like about the saga is that, much like real life, things are unpredictable.
There are no guaranteed happy endings. The story constantly changes and anything, and I mean anything, can happen. Which means that no one — no matter how central they are to the story — is safe.
But, let me be honest.
While reading the books, there have been a few times that I have found myself flicking forward through the book. As a character gets themselves into an impossible situation, I take a peek to see if they made it out alive and well.
Let me tell you, many don’t make it through.
I must admit though, sometimes I feel like doing the same with the current economy.
That is, I wish there was a way to look at the future to see how this massive central bank ‘experiment’ ends.
Back in 2008, as things got tough, central bankers rushed to the rescue.
To boost the economy, they lowered interest rates and poured trillions of dollars into the financial system.
Low interest rates boosted stock and property prices. But this didn’t solve anything.
10 years on and the recovery has been weak.
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2008 was a debt crisis and today, we are in more debt than ever before. To reference A Game of Thrones, the ‘slightest word’ could open up this old wound and make it bleed again…
Markets saw quite a lot of turmoil in October.
Now investors seem to be having different views on what will happen next.
Some investors expect the stock market to remain strong, and to see inflation subdued from the effects of globalisation and automation. They don’t believe the Fed will stick to their plan of raising rates. That’s why they are saying ‘buy the dip’.
Others see that the US is running at full employment and that the recent tax cuts have added more fuel to the fire. This means that at some point, inflation will show, which will force the Fed to increase rates faster, causing a market crash and a recession.
Which one is right?
Should you buy the dip as this bull market has a long way to go? Or will inflation show up and kill it?
To be honest, we don’t know. No one does. We aren’t the writers of this story, just mere readers, taking in each chapter at a time.
In saying that, the second storyline makes more sense to us. That is, that inflation will show at some point.
Inflation is starting to heat up in the US
While consumer prices have increased less than expected in recent months, there are concerns that October could be different.
This is mainly because the producer price index, which measures the prices that American domestic producers receive for their output increased three times more than the forecast.
So, inflation numbers could be higher this time. We will find out for sure later this week.
Yet, we seem to be in the minority.
While stocks have taken a beating this year, the recent Legg Mason Global Investment Survey shows that investors are still optimistic about the market. The survey tracks investor sentiment and behaviour in 17 markets across the world.
As you can see below, the majority of investors around the world are expecting global markets to increase in the next 12 months, with only a small portion anticipating a decrease.
In the US in particular, 66% of investors are expecting the US market to increase while only 14% expect it to decrease.
Source: Legg Mason Global Investment Survey
And even with the US stock market struggling this year, investors are buying the dip. As the survey reports, investors have increased their equity allocation this year when compared to last year.
It’s when everyone’s optimistic that it’s time to be weary.
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We may not be sure about where the story goes next, yet we know how the story ends. Just as every other bull market story has ended, with a crash.
This has been one of the longest bull markets in history. While most investors are looking to another 12 months of market gains, we think it is time to get defensive.
Editor, Markets & Money