Rally run ning out of steam
Resist the buy button and take some money off the table
TListen to the podcast on Fin24.com HE WORLDWIDE INCREASE – call it a partial rally – in share prices that took off in earnest in the second week of May is beginning to run out of steam. Cracks are starting to show in the outspoken self-confidence that pushed up the Standard & Poor’s 500, the best measure of share prices in the United States, by 40% since March.
June has suddenly become a hard month; the past week even more so. The S&P 500 has bogged down, even falling by almost 5% in June.
Investors in South Africa have to learn how to live with the current poor performance of share prices on the JSE. And remember: the traditionally lacklustre third quarter – when share prices seldom increase and usually reach a low somewhere in September – is still to come.
The spark that caused share prices to explode in the US in March ignited all share markets worldwide, and particularly those in emerging markets started leaving real underlying value far behind. Commentators on Bloomberg are warning about a new bubble that could burst, especially in the prices of smaller companies in the Asia region. Things are proceeding so merrily there now that the MSCI’s Asia index is already trading at an earnings multiple of 42. That’s more than twice the level at year-end 2008.
The Stoxx 600, Europe’s comprehensive index, is trading at a PE of 24, nearly the same as the highest level reached in 2004, largely because the profit of the companies included in the index has fallen by 47% over the latest quarter. It’s difficult to justify the simultaneous increase of 31% in the value of the index.
The PE of the US’s S&P500 is currently 62, while Britain’s FTSE index is an alarming 84 (see box for an explanation of those absurdly high PEs).
Investors and speculators clearly realised early in March that the US, and especially Britain and Europe, weren’t going to go bankrupt, not yet at any rate. The trillions pumped into the financial system by the three major players pushed interest rates down to nearly zero. In fact, the rate on 90-day US Treasury bills was at times even negative. The excess liquidity had to spill over to other financial assets. One of those was shares. Emerging countries’ currencies also attracted attention. But there was so much money that even US shares were popular.
But it looks as if things are starting to cool down a bit. For a start, the fall in interest rates – especially those on long-term US Government bonds – has suddenly been halted and has turned around in earnest. Interest rates are rising again, which is never good for share prices.
The enormous decline in economic activity – especially industrial production, which in the huge euro area was more than 20% lower in April this year than in the previous year – heralds a sobering mood and the realisation that the credit crisis harmed economic growth much more than was initially believed. Company profits have been brought sharply down, partly due to the new IFRS and the requirement that the value of financial instruments in possession must be written off as the market prescribes.
In SA, share prices are also running away rather too quickly. Remember that all four of SA’s Big Four commercial banks have already warned that their profits for this year will be lower than last year’s. And that’s with interest rates being lowered.
Along with the ongoing weaker prices of many commodities, manufacturing, at 22% lower than a year ago, and retail sales in April, with its many holidays and buying opportunities, still 6,7% lower than last year, there are enough warnings in SA that a pause in the sharp increase in share prices is now necessary.