Quarterly Market Cycle Review: Where are we at today?
As at April 2021
This is an exercise from the book: Mastering the Market Cycle in which the purpose is to understand the “temperature” of the current market and its future implications.
Everyone sees what happens each day, as reported in the media. But how many people make an effort to understand what those everyday events say about the psyches of market participants, the investment climate, and thus what should be done in response?
Below is my interpretation of the current market developments based on my understanding of the market as an investor and my experience with investors as an advisor.
I highly recommend that you run through this exercise as well and share with me your opinion!
Economy and Future Economic Outlook
The introduction and adoption of the COVID vaccine have accelerated the recovery progress as businesses and economic activity picks up across the globe.
The market has also seen more participant who is eager to invest in hopes to earn a better return on their savings after seeing the strong investment return last year.
In my opinion, while the global economy and fundamentals are indeed picking up, I feel that investor is getting ahead of themselves when it comes to their expectations of the future.
Today, most investors are using the recent market performances as a benchmark for their future returns expectations which is extremely dangerous.
Anybody who bothered to read up on market history would know that the recent performance is not an accurate representation of a sustainable long term return rate.
This is inferred from both my interaction with clients/investors and the AAII sentiment survey.
Capital and Capital Markets
As a result of the central bank’s intervention, capital is of an abundance right now in the markets.
Furthermore, given the current market valuations, it makes sense for businesses to IPO or enters into an M&A agreement to make use of the market’s receptiveness towards high valuations in order to lower their cost of capital.
Lenders, Debt Terms and Interest Rates
Given the current interest rate environment and perceived business risks, I believe that most financial institutions are not as willing to take on uncompensated risks as they were during the pre-covid periods.
As such, I believe that the financial institutions are more selective on who they are willing to lend to and more restrictive with their debt terms.
Since the mid of 2020, interest rates have generally been rising and recovering back to their pre-covid levels. This may act as a headwind for businesses as a higher interest rate signify higher borrowing cost and hence lower profits.
Investors, Markets and Yield Spreads
There is no alternative (T.I.N.A.)
This is the main theme revolving around global savers as they are not receiving a high enough return rate on their savings. As such, many of them are flocking into the market in hopes of higher return.
As a result of this, we are seeing a steepening of the yield curve and higher share prices. This indicates an expectation for a stronger economic activity and rising inflation expectations.
Asset Price, performance, returns and risks.
We’ve witnessed a very strong recovery/performance since March 2020 and as a direct result of that, assets prices and valuations soared and are currently trading at their all-time high.
If we’ve learned anything over the last 200 years of market history, it is that when valuations are high, prospective returns will be low while risks will be high.
Moving forward, it is either the
fundamentals recover and brings valuations down or
prices will drop to bring valuations down
In other words, a correction by time or correction by price.
However, as I’ve mentioned in my technical analysis article we can expect 2021 to be a positive return year given the current sentiment, momentum and liquidity in the market.
My overall sentiment from exercise
Based on this exercise, personally, my interpretation is that the markets are slowly inching towards the top of the cycle.
In terms of the question of: “are we there yet”, probabilistically speaking, I do not think that we are “there yet” due to the following reason:
the sentiment is still very optimistic and the momentum is still intact
there is no major external shock that may send investors into a panic and reverse the current bullish feedback loop
Read more: Anatomy of a Financial Crisis and what you need to know about it
As such, I think that there may be still room for the market to rally before we hit the top of the cycle.
Moving forward, the key is to have a better understanding of the sustainability of price actions and adopt proper risk management.
Depending on your view of the market, you may want to consider cutting back on your exposure to certain markets and re-enter upon clearer signals of a SUSTAINABLE economic and market recovery.
Remember, a 50% loss requires a 100% return to break even.
While time in the market is important, sitting back and doing nothing despite clear signals of an overheated market instead of managing your risk exposure is not the right way to move forward.
Clearly, not making a profit beats incurring a loss. When in doubt, remember the first rule of investing: Never lose money.
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Daniel is a Licensed Independent Financial Consultant with MAS and a certified Associate Wealth Planner that provides advice in the following areas:
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This article is meant to be the opinion of the author and is for information purposes only.
This article should not be seen as financial advice
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