Stocks, collectively, trading on the Australian Securities Exchange, have entered a technical “correction”.
A correction is a drop in stock prices of 10 per cent or more from their peak. By the close on Thursday, Australia’s benchmark ASX 200 index was down 10.3 per cent from its record high set in mid-August.
The trillion-dollar question is, when will the heavy selling stop?
Despite tens of billions of dollars having already been wiped off the local market, and trillions more globally, professional investor and author Danielle Ecuyer says there are likely further losses in store for those who remain invested in shares.
“Stock markets are increasingly gripped by a fear that four decades of successively lower interest rates is about to end, combined with geo-political risk,” she explains.
“This will present another significant buying opportunity, but all technicals (charts of share price movement) suggest the bottom isn’t in yet.”
Inflation threat
Low inflation can be a dream for investors.
It affords central banks the ability to keep their monetary policies loose (interest rates low).
Low interest rates give businesses the opportunity to invest but, crucially, money generally also moves away from assets that benefit from higher interest rates (bonds, cash) and into stocks.
Stock gains are heightened as more gains are made (the boom feeds on itself) and as investors hungry for bigger gains borrow money (at low rates) to invest.
This accelerates share gains.
When inflation begins to rise, this process reverses because central banks respond to rising inflation by raising interest rates.
I’ll admit, I fully accepted the Reserve Bank’s theory that workers’ wages, more broadly, needed to rise by quite a lot before it would need to consider lifting its cash rate target.
But here’s why there’s no guarantee of that.
What if inflation continues to rise without the contribution of higher wages growth?
Fund manager Hamish Tadgell from SG Hiscock and Company addresses this question.
“The most recent Omicron wave further clouds the growth outlook,” he warns.
“While less virulent, it is far more infectious and has seen a spike in case numbers.
“This has tempered consumer behaviour and amplified labour shortages and disruptions as workers testing positive or close contacts have been forced to isolate.
“It has also exacerbated supply chain issues and inflationary pressures.”
In other words, if the pandemic continues to cause a shortage in the things we buy, inflation will remain elevated even if wages and the broader economy are stagnating.
High anxiety about interest rates
In times like these, where stock markets are coming off record highs and broader community anxiety related to the pandemic is elevated, stock markets can easily experience wild swings.
We have seen that repeatedly this week on Wall Street, on Asian markets, and locally here in Australia.
Some of the anxiety though has a focus: when the United States Federal Reserve will call time on the greatest economic stimulus program ever undertaken.
Overnight, the Federal Reserve chairman’s statement about its latest meeting noted: “With inflation well above 2 per cent and a strong labour market, the committee expects it will soon be appropriate to raise the target range for the federal funds rate.
“The committee decided to continue to reduce the monthly pace of its net asset purchases, bringing them to an end in early March.”
In short, the provision of easy and cheap money is coming to an end very soon and global investors are quite fearful of what that truly means for stock valuations.
2021’s IPO boom
As mentioned in a previous column, companies designed specifically as vehicles to raise funds (SPACs) to buy other companies have seen record money inflows.
But the process of raising money directly via the stock exchange has also been at fever pitch for well over a year.
“2021 was an exceptionally strong year for initial public offerings with the market recording the highest number of new floats in a decade, and more than the previous two years combined,” according to the latest HLB Mann Judd IPO Watch Australia Report.
“In total, these IPOs raised $12.33 billion, a significant increase on 2020 ($4.98 billion).”
This gives you some idea of the kind of money on the line should the tables turn in favour of those who want to get out of the share market.
Even before the bulk of the latest downturn since Christmas, the share price performance of these IPOs was mixed.
While the average return on a 2021 IPO by the end of the year was a gain of 17 per cent, the report’s author Marcus Ohm said slightly more newly listed companies posted large losses than recorded huge gains.
“These averages hide a number of individual outliers, with 50 companies recording a year-end gain of 20 per cent or more, and 57 a year-end loss of 20 per cent or more.”
At the moment, even more so than usual, the share market comes with plenty of risks, not just potential rewards.
