Rising stock market still has ‘some way to run’
The economy may be struggling, but the stock market is booming. Should we be throwing our hats in the air or worrying about a crash?
Britain avoided a triple-dip recession and may also have escaped a double-dip decline, but the economy is still weak and growing only at a faltering pace.
In his farewell appearance in front of jounalists this month, outgoing Bank of England Governor Sir Mervyn King signed off on a note of relative optimism, with higher growth and lower inflation than previously forecast.
But in case anyone allowed themselves to become carried way, he warned that it “hasn’t been a typical recession and it won’t be a typical recovery”.
Growth is expected to be subdued for some time to come, but the FTSE 100 index does not reflect this, climbing to its highest level since 2000.
This is a reminder of the billions of pounds the Bank of England has pumped into the economy through its quantitative easing (QE) programme.
Probably the biggest problem for stock markets is genuine economic recovery. Paul Kavanagh, Killik & Co
This is good news for those companies whose share prices are rising and for savers and investors with stakes in those firms. But how long is this boom likely to last? And when it comes to an end, will people have their fingers burnt?
No alternative
Paul Kavanagh, a partner at Killik & Co stockbrokers, told Channel 4 News that QE in Britain and other countries was keeping interest rates low, which meant investors were not making money from fixed-interest bonds and were having to look to stock markets for returns.
He believes we are in line for “up to 18 months of fairly significant re-rating of equities”, with markets rising by as much as 30 per cent before then.
Mr Kavanagh said: “I think the feeling around long-term interest rates has changed in that the talk about when the uplift will come has been pushed a long, long way.
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“This is a one-off re-rating of equities. Tough times mean investors have to own assets and have to own cash flow and are happy to pay a higher price and receive a lower return to own it.
“I think it has some way to run. I can still see lots of value.”
Buoyant stock markets in Britain and other western countries should not necessarily be seen as a sign of confidence in the economy. On the contrary, according to Mr Kavanagh.
He believes that when recovery comes, rising inflation will lead to higher interest rates, giving investors other options when they weigh up where to place their money.
Biggest problem
As such, “probably the biggest problem for stock markets is genuine economic recovery”.
Is a crash on the cards? “It raises the risk of a correction some way down the line, but we’re not in bubble territory at the moment.”
Simon Kirby, an economist at the National Institute of Economic and Social Research, told Channel 4 News that in stock markets were often regarded as “a leading indicator of the economy, reflecting the likely future profits of companies”.
But he said it had to be borne in mind that many FTSE 100 firms were multinational companies whose share prices were affected by what was going on in other parts of the world.
“This is as much about the global economy as the UK economy. You need to bear that in mind. And I think you need to be a little bit careful before you say the UK and global economies are about to boom.”
Messrs Kavanagh and Kirby are agreed: at the moment, do not confuse rising stock markets with booming economies.