Tuesday, 3 January 2017

New highs for the FTSE 100 but will it continue rallying?

The FTSE 100 reached record highs over the Christmas period, closing at previously unseen levels and has continued to trade at elevated levels at the start of 2017, but some have cautioned against getting too carried away with the rally.
The index closed at 7,142.83 on 30th December and continued to rise as the LSE opened for the first time in 2017.  Led by the previously unloved banking and commodities sectors, the FTSE 100 ended the first trading day of the new year at 7,177.89.  This bounce was largely caused by the oil price, which hit $58.16 a barrel on Tuesday and ended 2016 45% higher following a late rally. Iron ore and coal also ended the year strongly and even gold and silver finished 2016 with a minor flourish as they sought to rally from 10-11 month lows.
For banks, rising bond yields and the potential for higher interest rates this year have warmed investors to one of the least loved asset classes since the 2008 financial crisis, and means the FTSE 100 ended a challenging year 19.07%higher.
The FTSE 100 performance is being driven largely by four sectors, banks, insurers, oil & gas and mining, which are expected to generate roughly half of the index’s total sales, profits and dividend payments in 2017. More potently still, some analysts believe this quartet will provide up to three-quarters of the forecast growth in earnings and half of the forecast growth in dividends - with steepening yield curves helping banks, rising bond yields helping insurers and rising commodity prices lifting positions in natural resources.
There has been a long-term reflation trend, accelerated by the election of Trump in November, which undoubtedly impacted the surge seen at the end of 2016.  Politicians got the message that electorates were sick of austerity, and out of concern for people’s jobs – and their own – governments began to row back on talk of austerity and instead emphasise fiscal stimulus and fresh efforts to stoke both growth and inflation.
Markets welcomed this shift after spending most of the first half of 2016 fretting about whether monetary policy was losing its power to boost the global economy, after seven years of record-low (or negative) interest rates where even Q.E seemed to be producing diminishing returns.

Now investors seem to be in two camps  – those investing despite nervousness over potential pitfalls, and those that remain optimistic for the future.  People have been looking for change, and for politicians and central bankers to do something different because markets may have already absorbed as much monetary stimulus as they will allow.
Some analysts agree that the ‘Trumpflation trade’ is key for the UK market, creating a stronger dollar and in turn boosting the FTSE 100’s overseas earners, who generate around two-thirds of the benchmark’s total earnings.  What has driven the recent rally was effectively triggered by Trump, but the groundwork was already being laid with the rhetoric pointing towards central banks passing on the baton to governments to undertake fiscal stimulus.
It is worth noting that since the presidential election, the US market is up 5.28 per cent while the UK market has risen 4.87 per cent – giving strength to the belief that a Trump presidency will lead to a more buoyant UK markets however some analysts warn investors should not feel too comfortable about the current highs.
An important point is that much of the recent positivity has been on the back of Christmas trading where trading volumes are historically much smaller and large price movements more likely to happen, and no doubt may investors will be watching keenly to see what happens in the next month or so as trading normalises and volumes pick up again.  There was a similar start to 2016 before a couple of poor months sent markets into a spin, so investors may be wise to not get too carried away.

After such a precarious 2016 the lesson perhaps is that this bull market is not dead by a long shot, but investors should allow the current euphoria to die off a little to have a more realistic picture of what 2017 will bring.

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