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August is a month that is usually typified by low trading volumes and a sense of disinterest from market participants, many of whom, legend has it, are on holiday. Perhaps this is true or perhaps the expectation that it is true makes it so. In any case this August has been no exception – trading volumes are markedly lower, albeit perhaps not as muted as we have seen in previous years. With St Legers day approaching fast it is likely that we will see volumes normalise in the near term.
In spite of lower volumes the FTSE 100 has experienced comparatively low volatility with the index opening at around the 7,425 level and closing out roughly flat albeit with intra-month highs of 7,540 and lows of 7,310 which equates to a high/low split of around 3%. Note that a lower volatility environment creates the conditions in which extreme market moves are more likely due to a lack of liquidity, so August has by no means been an outlier.
Although who would be surprised if it had been? Consider for a moment that August has seen North Korea and America engage in a war of words regarding the former country’s nuclear weapons procurement and testing while the latter has been subject to what some are referring to as being a 1 in 1,000 year storm which has resulted in widespread destruction and loss of life. In amongst this on the home front the Monetary Policy Committee voted 6:2 in favour of interest rates remaining where they are: at 0.25%.
It would be understandable if the market reacted negatively to the news that the UK economy remains so weak as to require exceptionally low interest rates to survive. Exceptionally low rates were implemented as an emergency measure in the aftermath of the financial crisis and lowered further following the outcome of the Brexit referendum last year. Of course at some stage the exception becomes the rule and we may have already crossed that particular Rubicon from a policy perspective. Again we reiterate that the longer this period of ultra-low rates continues the greater the impediment to normalising interest rates, particularly in an environment of stagnant wage growth and inflation. On the horizon the storm continues to brew and underlines our stance on fixed income, where we remain underweight relative to WMA indices.
There was clearly a negative market reaction (drop of around 3%) to the North Korean missile threat to Guam. This is understandable in the context of American foreign policy being visibly conducted via the novel medium of Twitter which, as we have previously noted, restricts the user to a mere 140 characters. For reference the previous sentence is about 200 characters, so I think it is safe to reiterate our view that Twitter is perhaps not a sufficiently nuanced tool to articulate complex foreign policy. Therefore the temporary nature of the drawdown implies that the threat of military intervention was seen by market participants as minimal and diminishing, which in turn indicates confidence in soft diplomacy (i.e. that which is not conducted via social media). Note that this is not intended to be wholly pejorative of Trump’s use of social media, but instead to reflect that the machinations of government are more subtle than he seems to be- diplomacy must have been continuing in the background. So in that sense the market reaction to the American/North Korean spat was short lived which is probably a good thing for everybody whether they have market interests or not.
Finally Hurricane Harvey in Texas has had unwelcome echoes of Hurricane Katrina in terms of impact and apparent lack of preparedness. The market impact has been muted although the region’s importance as an oil producer should not be overlooked. Indeed US officials have already released a significant proportion of their strategic reserves to account for anticipated supply going off-line and hence oil prices have remained broadly stable. In addition to this the clean-up operation could have repercussions for insurers although again we have seen little in the way of market reaction.
These three events and the subsequent market reaction imply that security prices at these levels remain well supported and weakness is identified primarily as temporary and therefore a buying opportunity rather than inflection point which would result in a trend reversal. One remains vigilant, however, to the threat of overall market complacency- particularly after such a strong run of performance and especially in the context of the apparent lack of progress in Brexit negotiations and therefore longer term domestic economic uncertainty. This is embodied in our reduced allocation to domestic equity (see June’s monthly update for more detail if required) and a more general “risk off” approach at present.