The Recent Stock Market Correction: Why Did It Happen?
As I have said on previous occasions to clients, corrections happen from time to time.
Particularly in the US, the market had gone up in virtually a straight line since August 2017, rising 16% in just over four months. When this sort of rise happens and investors have plenty of gains, they sometimes look for an excuse to take some profits and when the selling starts other people, sometimes “Johnnys come lately”, jump on the bandwagon.
The trigger for the fall was the announcement on the 26th of January 2018 in the US of continued good employment numbers but more importantly much higher than expected wage growth of 2.9%. Accompanying this, the yield on the ten year US Treasury had increased in just one month from 2.4% to around 2.8%, a large increase reflecting the idea that the Federal Reserve Bank and its new Chairman, Jerome Powell, the replacement for Janet Yellan, was going to increase what is known as “Fed Funds” rates, the equivalent of our Bank of England base rate, rather more quickly than hitherto had been thought.
Of course, good employment numbers and decent wages growth was really what the US economy had been hoping for. Strong employment growth has been happening for many but up to January, this had been accompanied by very low wage growth figures and this 2.9%, along with the US 10 year Treasury bond yield approaching the same figure spooked equity investors.
The three asset classes of equities, (shares) treasuries (bonds) and cash (deposits) compete with each other for investors’ attention.
As I am sure you appreciate, cash returns have been minimal for many a year and corresponding bond yields have also been low. When these start to rise, the attractiveness of equities wanes a little and the attractiveness of bonds and cash increases a little, and so we had the correction. Despite these changes cash returns in the UK, as represented by base rates is still only 0.5%. The yield on the 10 year UK Treasury is only 1.5%, whereas the yield on the FTSE All Share Index is 4%, indicating that UK shares probably still have good value. Whether or not another period of high volatility and a further pullback occurs, only time will tell.