Investors fear that 2019 could be the year of a world recession. Warning signs of an economic slowdown are currently emerging, adding more uncertainty and fear of investing in the volatile market. Negative market reactions have been caused by EU’s impatience with Brexit, the Sino-US trade tensions, the US government shutdown, inverted yield curve, and the rising interest rates set by the Federal Reserve. Unsurprisingly, the U.S equity market saw the worst Christmas Eve trading day on record, with the S&P 500 Index closing down 2,7 % more than 20% its previous peak in September. 2018 was a year in which it was exceptionally difficult to make money or to add value to investments.
What should the investors watch out in the future? This article aims to analyze the investment trends in 2019.
Since his electoral victory in 2016, Trump’s ambitious plans to deregulate Wall Street, such as implementing tax cuts and increasing infrastructure spending, has generated interest for many economists and investors. Despite bearish sentiments that stock prices would fall after Trump’s election, the stock market reacted positively, making it the second-best after election stock reaction in history. Suffice to saythat the S&P 500 Index gained 11,6%, while Dow Jones Industrial Average climbed up to 14.2%, during Trump’s first 100 days.
However, two years into his presidency, the investors now question Trump’s ability to implement his policies and bring his promised changes about. After, the Sino-US trade-war dramas and the stand-off over funding the wall on the Mexican border, which is the cause of the partial shutdown at the White House, the last quarter has been one of the scariest for Trump’s economy. Although, the long-term consequences are still far from clear, the investors might see an increase of the stock market volatility in 2019, if President Trump fails to uphold his campaign promises.
Despite investor’s concern about the recent actions of the Federal Reserve, it is important to consider that an increase in interest rate normally reduces inflationary pressure turning into an appreciation of the U.S. dollar. This can be considered one of the reasons why the Dollar Index Chart evolved into a recovery set-up from a struggling 2017 year.
The Fed has been raising rates gradually as the economy has strengthened, and its most recent projections suggest it will continue to do so into next year before slowing in 2020, according to CNBC. Thus, the US Dollar is likely to be less supported against the euro and other developed market currencies in the new year. Accordingly, when evaluating the investment strategy, for the investors it will be important to consider how the volatility of the dollar could impact portfolio performance in both the short and long term.
As reported by the Wall Street Journal, home sales had the steepest decline in over seven years, despite the fact that home prices and wages are on the rise. This could signal that homeowners are not able to afford buying homes or that they do not see the market reflecting properly the price of homes in their respective areas. House inflation and wages play an important part in what happens to house prices and explain why, despite people buying less houses, prices are still growing.
Rising interest rates has certainly had an impact too. The biggest issue in 2019, is that wages are not rising in proportion to higher home price, and the cumulative effect of a housing slowdown, could soften the housing market further. That might be a warning signal to Wall Street and investors have to pay attention to.
Yield Curve to Maturity
An inverted yield curve has preceded every recession in modern history. The recent inversion of the curve is a warning sign which suggests that investors see a more tepid economic growth in the future.
Under these circumstances, companies that borrow cash at short-term rates might incur a loss on their profit margin as it will become more expensive to fund their operations while hedge funds might be forced to take on increased risk in order to achieve their desired level of returns.
Thus, the morality of investors is clear: short-term bonds carry lower yields, because the investment is considered less risky, while long-term funds have higher yields to reflect that investor’s money is more at risk. The market seems ready to premium more for short term investments.
Currently, we are in the second-longest economic expansion of the past 159 years. Even though there is not concrete evidence that a recession is near, these four considerations might be pieces of a growing puzzle that implies that a recession could be closer than we assume. The best we can do is to make sure to diversify our investments, resist panicking about future events, and be flexible to cope with further turbulence in 2019.
MSc in Finance student, Grenoble Ecole De Management