Monthly Market Report - February 2016

27th January 2016

With commentary from David Stevenson

The bears are charging ahead, with the battle cry of oil at $10 a barrel. Equity investors have panicked and long duration bond yields have fallen to recent lows - the yield on 10 year UK gilts has fallen to just over 1.7%. If there is one chart that indirectly sums up the fear and panic itís the one below which featured prominently in one of the most entertaining investment presentations of the last few days - the bears annual Woodstock, hosted by Albert Edwards and Andy Lapthorne of French bank Societe Generale. If Albert is right, a big economic collapse is on the cards and the central bankers will have been proved to be fools - again. Then again that is what Albert was been arguing for many years now, so time will tell if he is right this time but the chart below is potent. It shows import price inflation levels for Japan and China, trending downwards in a deflationary spiral. The message is powerful. China is starting to suffer from deflation and as it grapples with this it will allow depreciation of its currency. This will in turn export deflation to a developed world already dealing with sharply lower oil prices. The knock on effect will be a stronger dollar, which will in turn combine with deflation to produce tighter corporate profits growth and possibly falling EPS numbers for US firms in 2016. With oil prices continuing to decline it's hard to see beyond the deflationary impulse but more optimistic investors argue that core inflation rates are actually edging upwards and sooner rather than later oil price falls will bottom out - removing a very large chunk of the deflationary impulse. Itís also indisputably true that some corporate sectors are benefitting from dramatically lower energy prices, with likely positive knock on effects on EPS growth. But for the moment the bears seem to be dominating the debate.

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