Investors reset for recession - the week ahead

Hopes that one of the worst two-day market performances in 40 years would stabilise over the weekend were confounded on Monday morning as first Asian and then European markets continued to plunge. Investors’ nerves are being severely tested by what looks like the worst market reset since the 1987 crash.

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Voting with their feet

The post-election Trump Trade was killed off last Wednesday by the US President’s Rose Garden announcement of sweeping - and swingeing - tariffs on trading partners all around the world. Markets immediately sold off, with the US benchmark S&P 500 losing 10% of its value over two days before the sell-off started up again after a weekend of anxious reflection.

• Read: Tariff impact: how to invest during stagflation

The scale of the falls either side of the weekend underscore the total reset of the market narrative from post-election optimism about tax cuts and deregulation to a bleaker story focused on a US-led trade war, tariffs, inflation and lower growth - possibly a recession. Goldman Sachs increased the odds on that outcome to nearly 50%.

Hong Kong’s Hang Seng fell 13% at the open on Monday. Germany’s DAX index was 10% lower. The FTSE 100 added another 5% fall to its two-day slide last week. It has fallen from a recent high of over 8,900 to 7,665. At the time of writing, futures markets were anticipating further heavy falls for US markets which have already seen the tech-heavy Nasdaq index fall into bear market territory, a decline of at least 20% from the most recent peak.

Balanced investors found some respite in government bonds which increased in value as their yields fell. Yields and prices move in opposite directions. The yields on the 10-year US government Treasury bond fell to under 3.9%, which compares with a recent high of around 5%, as investors started to worry more about slowing growth than potentially rising inflation.

Other safe havens have been hard to find. Commodity prices fell sharply in anticipation of slower growth ahead. The price of a barrel of Brent crude fell 4% to $63, a decline of more than 30% over the past year. Copper, often viewed as a bellwether of global growth, fell 7% on Monday to $8,690 a tonne. Even gold retreated from its recent all-time high level as some more leveraged investors were obliged to sell what they could rather than what they might choose to.

The VIX index, sometimes known as Wall Street’s ‘fear gauge’, rose above 60. Anything above 30 is associated with extreme market volatility and today’s level is three times the long-run average of about 20.

Sticking to investing principles

At times of market turbulence like the last three trading days it is important to focus on long-term investing principles that have stood the test of time. Markets tend to rise over time, but they rarely do so in a straight line. Rather the price that investors pay for the outperformance of shares over apparently safer assets like bonds and cash is short-term volatility. The long-run performance of shares only benefits those investors who can avoid the temptation to run for cover, who can avoid crystallising losses by selling after sharp falls, and those who take advantage of market falls to top up their holdings at attractive prices.

Staying calm during market turmoil matters because the best days in the market very often occur hot on the heels of the worst days. Missing out on those rebounds in prices has a significant impact on long-term returns not just because investors miss out on the initial rally but because they also miss out on all future returns that build on those positive days.

• Read: Is my portfolio diversified enough? 

Meanwhile, the world rolls on

The performance of the stock market bounces around in the short run, but over the long haul it is determined by the earnings of the companies listed on the world’s stock markets and by the multiple of those earnings that investors are prepared to pay to own the shares. Of the two, the more important is earnings.

So, the first quarter results season that kicks off this week is as important as the immediate gyrations of the market. At the moment, expectations remain for low-double-digit growth in profits year on year although forecasts are starting to ease back in anticipation of the broader economic slowdown that is likely to be triggered by the new trade and tariffs landscape. As usual, results season kicks off with a handful of US banks such as BNY Mellon, JP Morgan Chase, Morgan Stanley and Wells Fargo on Friday. 

• Read: US tariffs explained - plus three funds to consider
• Read: Trump's Trade War: the case for diversification
• Read: How far will interest rates fall?

Important information - investors should note that the views expressed may no longer be current and may have already been acted upon. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. Overseas investments will be affected by movements in currency exchange rates. Investments in emerging markets can be more volatile than other more developed markets. There is a risk that the issuers of bonds may not be able to repay the money they have borrowed or make interest payments. When interest rates rise, bonds may fall in value. Rising interest rates may cause the value of your investment to fall. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to one of Fidelity’s advisers or an authorised financial adviser of your choice.