We make no apology for referring to this stock market trend again this year, but the circa 1% rise in the UK Footsie 100 Index on the first trading day of 2020 is potentially a very good sign for Investors.

A study of the Index over the past twenty years found that in 17 of those years, the direction of market movements over the year matched the movement of the first day’s trading, so the rise on 2nd January suggests there is a strong chance the Footsie 100 index will finish higher in 2020.

The pattern was certainly true to form in 2019 when the FTSE 100 opened at 6728 and was 6 points higher at the end of the first day’s trading. It finished the year 13% higher at 7542.

Investors taking their lead from how the stock market moved on the first day of trading would have been wrong-footed only three times in the last two decades. In 2002 and 2011 the Index was up on day one but went on to fall over the remainder of the year. In 2016 it fell on the opening day but finished that year higher.

Another trend that offers encouragement for investors in 2020 is that in six of the past seven years the high point of the FTSE 100 Index exceeded the peak of the previous year. The year’s peak has risen from 6840 in 2013 to 7837 in 2018. This pattern of successive peaks was not maintained in 2019 but many forecasters are hoping that, buoyed by a positive start to 2020, the index will finally break through the 8000 barrier.

Only time will tell if the first day of trading proves to be a useful future indicator for 2020 and, of course, we would not recommend making investment decisions on the evidence of one day’s trading. Indeed, after a stellar performance of all stock markets in 2019, it would be understandable for investors to be a little nervous as we head into 2020. We must also always remember the wise words of the eminent Economist, J K Galbraith who said, “The only function of economic forecasting is to make astrology look respectable,” but there are other sound reasons to be cautiously optimistic for the year ahead.

Firstly, if we analyse stock market performance for 2019 a little more carefully, it is less remarkable than the return over twelve months suggests. Market returns in the previous year were of course very poor and 2019 was only a bounce back from the stock market falls in the previous 12 months. Over a two-year period from the start of 2018, stock market returns are not even average and certainly nowhere near high enough to flash up warning signals of investor exuberance or that a market crash might be imminent.

Since the beginning of 2018, only the US Indices have performed well, with the S&P rising by over 20%. The UK, China and Europe markets are basically where they were two years ago, and Japan’s Nikkei index is only 4% higher.

The second reason to be confident for the year ahead is that a recession in 2020 looks unlikely. The delayed impact of last year’s interest rate cuts, ongoing policy support, some fiscal easing and President Trump’s desire to support the US economy and stock market in the run up to November’s election mean corporate earnings should gradually recover after 2019’s relative stagnation.

Thirdly, except for the US, stock market valuations are not excessive. And even on Wall Street, with bond yields so low, a reasonable case can be made for stocks and shares to continue to trade on today’s multiples of earnings or even to become more expensive.

The fourth reason for optimism is that, according to estimates by Nomura, Central Banks look set to sweep up bonds worth hundreds of billions of pounds to help kick start economic growth in the latest unprecedented intervention into financial markets. The Federal Reserve Bank of America, Bank of Japan, the European Central Bank and the Peoples Bank of China all look set to reboot their Quantitative Easing programmes. This will boost the economy by aiding bank lending, lowering long term interest rates and by pushing investors who are desperately seeking higher returns than those available on cash deposits into riskier assets.

Finally, Governments throughout the world, in the desire to support their economies will begin to shift the focus from austerity to fiscal expansion. More public spending, with the likely consequence of higher inflation, is a much better environment for stocks and shares than bonds and cash. A lot of money that has deserted equities for fixed interest investments could head back the other way.

And so, the investment themes of the Clarion Investment Committee in 2020 are likely to remain broadly the same as in recent years with equities being the asset class of choice. Bonds feel too expensive in a recovering economy under the threat of resurgent inflation at some point. The same can be said of commercial property where yields are far too low to compensate for rising risks. And, unless things get nasty in the Middle East, commodities like gold and oil will probably neither make nor lose much this year.

Also, just like the past decade where returns have averaged a miserly 0.5% per annum, holding too much cash, other than for short term requirements and to act as an emergency fund, still feels like “reckless caution.” Cash generally is not a good store of value over the long term and is virtually guaranteed to lose money after taking into account inflation.

On which stock markets should we focus. The US has already priced in more good news than any other market after years of outperformance, and clearly there is better value elsewhere. However, it can be difficult, foolish even, to ignore the world’s largest, most influential stock market and vibrant economy. The UK, Europe, and Japan all look good value and should benefit from Central Bank stimulus. The wild card could be a return to favour for Emerging Markets where shares seem as cheap as they have ever been since the Asian crisis more than 20 years ago. An easing of trade tensions, a weaker Dollar and economic reforms would be the icing on the cake of a long-term demographic growth story that never really went away.

All this leads us to conclude that 2020 will be an interesting year with an abundance of opportunities for the Clarion Investment Committee to debate and hopefully take full advantage of for the benefit of our clients.

What could change our investment themes?  We live in an ever-changing, complex world and there is no doubt that there will be some hidden dangers that will surprise in coming months. Worries over trade, economic growth, corporate earnings, interest rates and geopolitical risk could all resurface at some point. Any evidence of a resurgence of inflation and/or moves by central banks and governments to rein in money and activity could be damaging to equity valuations, which may lead us to scale back on the current exposure to equities.

Also, for all sorts of reasons; humanitarian, economic and financial, we must hope and pray that the current tensions in the Middle East do not escalate into a full-blown war. We equally must hope and pray that the Coronavirus in China can be contained before it becomes a widespread deadly epidemic causing more deaths in a similar way to the SARS virus in 2002/03.

Having said that, the resilience of stock markets following the rising tensions between Iran and the US in the aftermath of the assassination of Iran’s totemic general, Qassem Soleimani provides a lesson in waiting out passing tempests and focusing on gauging the outlook for the global economy and corporate profits. While geo-political developments do matter, the ultimate arbiter of just how well stock markets will fare in 2020 comes down to whether valuation levels are supported by stronger economic data and corporate earnings. As always, we will be paying careful attention to the data flow regarding these two vital cogs in the engines of prosperity and stock market growth.

We conclude this commentary with a statistic from an article by 5th Viscount Matthew Ridley, author of the “Rational Optimist” and “How Prosperity Evolves,” reminding us of the ways that the world steadily gets to be a better place and companies get more and more profitable. He noted that in 1959, to manufacture a simple drink can required 85 grams of aluminium. Today it is only 13 grams. As we get cleverer and more productive there is more wealth to go around. The long-term correlation of this trajectory to rising stock markets is clear and as good as any reason to be cautiously optimistic about 2020 and beyond.  

If you’d like more information about this article, or any other aspect of our true lifelong financial planning, we’d be happy to hear from you. Please call +44 (0)1625 466 360 or email enquiries@clarionwealth.co.uk.

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