It seemed like 2017 was the year when whatever could go wrong, didn't. So far, 2018 feels like investors believe whatever could go right, will.
There were three risks that occupied investors' minds a lot in 2016, and somewhat in 2017: anaemic global growth, default risk and a 'hard' Brexit. For all three, markets have seen a continued ebbing of fear. Three charts put this move into context.
- Global growth – the performance of cyclical sectors versus defensives shows that equity investors do not fear a recession; this is in contrast to early 2016 when growth fears were at their peak.
2. Default – the implied risk of default from 'junk'-rated (below investment grade) companies or governments has seen a big decline.
3. Brexit – the pound has proved to be the financial market most clearly linked to sentiment about Brexit. Against an average of the US dollar, the euro and the Japanese yen, the pound is now back to levels last seen very early on the morning of 24 June 2016, in contrast to those seen at the peak of fear in October 2016.
There are differences of opinion about when 'fear' will return. Regardless of the timing, the upside to risk assets could be becoming less attractive compared to the downside. In the meantime, we believe it pays to evaluate potential market scenarios continually and stick with the science, as described by Emiel.