In last week’s article I reviewed the main developments across the local equity market during 2015. The MSE Share Index registered its best performance since 2005 with an extraordinary uplift of 33 per cent as most equities registered double-digit gains. The strong share price performance across most equities materialised from improved financial performances and higher dividends to shareholders, various company-specific developments as well as the low interest rate scenario which led to a surge in demand for equities giving an attractive yield.
On the other hand, the main global equity markets had a difficult year. The indices in the US – the S&P500 and the Dow Jones Industrial Average – both registered marginal declines while the Nasdaq gained 5.7 per cent following the strong performances of a number of technology companies including Facebook, Netflix, Amazon and Google which was rebranded to Alphabet.
The FTSE100 in the UK suffered a five per cent drop given its large dependence on mining companies which were impacted by the sharp decline in commodity prices.
Across the EU, stock market performances were mixed. Among the larger markets, the FTSE MIB in Italy was the strongest performer with a gain of 13.9 per cent followed by the DAX (+11.2 per cent) and France’s CAC40 (+8.5 per cent). On the other hand, Spain’s IBEX suffered a loss of seven per cent which can be mainly attributed to the uncertainty leading up to thegeneral election in December which resulted in a deeply fragmented parliament.
As indicated last week, the smaller equity markets in the eurozone had some very positive performances. The strongest gainer was Latvia (+45.7 per cent), followed by Malta (+33 per cent), Slovakia (+31.5 per cent) and Ireland (+30 per cent). On the other hand, the Greek equity market shed 18 per cent and Cyprus was the worst performer with a 20 per cent decline.
2015 was a very eventful year characterised by extreme volatility. In fact, during the first quarter of the year, European markerts in particular raced ahead with strong double-digit gains. The DAX in Germany rallied by 22 per cent in Q1 followed by Italy’s FTSE MIB at 21.8 per cent, France’s CAC40 at 17.8 per cent and Spain’s IBEX (+12 per cent).
The main reason for this was the announcement of the quantitative easing programme by the European Central Bank in early January which then commenced on March 9.
2015 was a very eventful year characterised by extreme volatility
The markets reacted positively to the larger-than-expected bond- buying programme of €60 billion per month which will last until September 2016.
The monetary stimulus programme is aimed at lifting the inflation rate across the eurozone to just under two per cent as well as weakening the currency to boost exports and support the economic recovery.
The share prices of the large European exporters were among the most positive performers during the start of 2015. Renewed uncertainty in Greece and fears of an exit from the single currency characterised the early part of summer 2015, leading to a partial reversal across European equity markets as negotiations between the troika of creditors (EU, ECB and IMF) and the Syriza government proved to be difficult. As a deal was finally reached after many weeks of uncertainty and a real fear amonginvestors that Grexit could really materialise, equity markets subsequently rallied in July.
As the year progressed, monetary policy divergence became a central theme, as analysts were starting to anticipate that the US Federal Reserve would commence a series of interest rate increases in line with the consistent signs of improvements in the US economy, including a reduction in the unemployment rate towards five per cent.
On the other hand, speculation was rife that the ECB would implement further monetary stimulus as inflation remained stubbornly low. Given the negative impact on equities from a rate hike, the US market was volatile and very much dependent on the timing of announcements related to the US economic performance which signalled either the possibility of the start of the rate-tightening cycle or a delay in this respect.
However, the summer months were best remembered for the sell-off during the third week of August which commenced in China. Monday, August 24, was labelled ‘The Great Fall of China’ or ‘China’s Black Monday’ – a reference to the crash of October 1987 – as the Chinese Shanghai composite index dropped by 8.5 per cent, the steepest daily decline since 2007. This led to a sell-off in other global equity markets as European indices dropped by around five per cent on the day and the Dow Jones Industrial Average in the US declined by 1,000 points in the first few minutes after the market opened. The US equity market partly recovered by the close of the trading session of August 24 but still ended the day around 3.6 per cent lower.
The Shanghai composite index tumbled by 24 per cent between June 15 and August 11 as a series of interest rate cuts by the People’s Bank of China and other intervening measures failed to stem the sudden reversal of the debt-fuelled equity market bubble (China’s stockmarket had climbed by 150 per cent during a 12-month period between June 2014 and mid-June 2015).
Many equity markets entered into correction territory in August after the worst monthly declines for several years. In Europe, the DAX fell by 9.3 per cent, the CAC40 shed 8.5 per cent and the UK’s FTSE 100 fell by 6.7 per cent, whereas the S&P 500 in the US dropped 6.3 per cent.
The slowdown in Chinese economic growth and the resultant impact across global stockmarkets during the summer led the Federal Reserve in the US to delay the rate hike programme and this supported equity markets during the final quarter of the year.
Moreover, at the European Central Bank meeting held in Malta on October 22, president Mario Draghi had signalled the possibility of introducing additional monetary stimulus at its subsequent meeting in December in order to tackle deflationary pressures.
This led many investment banks to predict a further weakening of the euro supporting European equity markets in November. However, at the ECB meeting on December 3, although the ECB announced a reduction in its deposit rate to -0.3 per cent and extended the QE programme of €60 billion per month for a further six months until March 2017 (or beyond, if necessary), the actions by the ECB were less than widely expected and the disappointment across global financial markets was immediately evident.
Geopolitical tensions, particularly in the Middle East, have the potential to not only affect consumer and business sentiment but also commodity prices, especially oil
In fact, the 10-year German bund yield jumped from 0.47 per cent to 0.68 per cent on the day (one of the biggest one day moves in a long time), the euro strengthened by more than four per cent against the US dollar surpassing the $1.09 level (the biggest daily rise in the euro since 2009) and equity markets also reacted negatively with the German DAX 30 Index and France’s CAC40 both sliding by 3.6 per cent.
A few days later, the US Federal Reserve announced the first interest rate increase since 2006. Although this news was followed by some volatility, the overall movement in US equity markets during the final two weeks of the year was marginal as the move by the Federal Reserve was largely expected and underlined the confidence the Federal Reserve has in the US economy.
Following the steep sell-off seen last week (with many global indices suffering the worst start to the year in decades), it is fair to say that the volatile conditions experienced in 2015 will also characterise 2016. The main equity indices will remain sensitive to key developments affecting global demand, in particular the performance of the Chinese economy, the extent to which the US economy is able to handle a series of interest rate hikes and the speed of the economic recovery across the eurozone.
Other developments affecting investor sentiment will be political elections across various EU nations, Britain’s referendum on its future participation within the EU as well as the US presidential election. Additionally, geopolitical tensions, particularly in the Middle East, have the potential to not only affect consumer and business sentiment but also commodity prices, especially oil which recently dropped to its lowest level since 2004.
Monetary policy divergence will be a central theme this year. Although the Federal Reserve is widely expected to continue with a gradual increase in rate hikes, the economic slowdown in China and the subsequent impact on global economic sentiment can delay such decisions. This could widely affect equity, bond and currency market movements from one period to the next during the course of 2016.
Edward Rizzo is a director at Rizzo, Farrugia & Co. (Stockbrokers) Ltd.
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