Originally published by IFM Investors
Global financial markets continued to edge cautiously higher through May. Equities in the US rose overall but had a choppy month as the focus on political risks intensified. The UK’s equity market made a strong gain, to touch a record high on the FTSE 100, due primarily to the weaker GBP. In Europe, increases were more modest but nonetheless held on to some post-French election optimism. And it is to be expected that continued optimism around the Eurozone economy should be supportive.
Indeed it was the Australian equity market that fared worst over the past month, declining markedly – led lower by the banking sector. A confluence of factors drove this result, including: a weakening outlook for the Australian economy; heightened risks in the domestic property market; a credit downgrade for smaller non-government guaranteed banks; and the introduction of a 6bp ‘bank tax’ in the federal budget. Lower commodity prices also weighed on resources stocks.
What is notable in global equity markets is the divergence of measured uncertainty and implied market volatility. The former is near historical highs and the latter near pre-financial crisis lows (despite a brief spike in May due to US political uncertainty that has since rapidly retraced). Historically, the relationship between the two has been relatively strong and at least has had some degree, and often a high degree, of correlation. Since around 2015 this has broken down completely. The low level of volatility is not just characteristic of equity markets; levels are low in bond and exchange rate markets also. And it is being reflected in very narrow spreads in investment grade credit that reflect, in part, a low level of perceived risk.
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