It’s May which means the “Sell in May, and go away” adage is being debated again. It’s also a good time to have a look at where markets are and where they may be headed. Whatever happens in equity, commodity and bond markets will ultimately affect currencies too.
For the record, while the months from May until October are historically the weakest months, it’s not actually worth selling your stocks in May. The problem with the Sell in May strategy is that there’s no way to know when to get back into the market.
After dipping slightly in March and April, most global equity markets are again making new 12-month highs, if not all-time highs. The direction that equity markets take going forward will dictate what happens in other asset markets.
The case for more upside
- The US economy is still expanding.
- The European economy is continuing to recover.
- China’s economic growth is picking up again.
- Emerging markets are relatively cheap and continuing to recover.
- Sentiment is falling, which is often a contra-indicator signaling further upside.
- While interest rates remain low, new money continues to flow to equities.
The case for downside
- The reasons for the ‘Trump Trade’ are falling by the wayside. There are no concrete plans for infrastructure investment or tax cuts, and the healthcare bill has yet to pass the Senate.
- US equities are very expensive by historical standards
- Central Banks have very little room to create even more liquidity.
- If the scandals surrounding President Trump result in impeachment hearings, they will create uncertainty and weigh on markets.
Commodities have been under pressure since March. This is partly the result of US infrastructure investment being delayed, and partly uncertainty over China’s debt.
The Gold price has rallied all year, but the rally does seem to be losing steam. This year’s rally is an indication of growing uncertainty in global markets.
The Oil price has been under pressure for most of the year. This is a result of a combination of both supply and demand dynamics. Oil prices seem to be finding support, but there is also no apparent reason for them to recover anytime soon.
Bitcoin and other cryptocurrencies have also had a remarkable run this year. There are plenty of reasons to presume these currencies are in a bubble, but speculative bubbles can last for years, and cryptocurrencies do have safe-haven appeal. This trend could continue for years but does come with considerable risk.
So where does this leave us?
As you can see, a strong case can be made for markets to go up or down. Asset markets are ripe for a correction, but that will require a catalyst. That could come in the form of a geopolitical event, an economic surprise or a high-profile bankruptcy. Until something happens to trigger a correction, it’s entirely possible that markets will continue to rise.
What does all of this mean for currency markets?
The US dollar is a safe-haven asset, and will probably strengthen if volatility picks up. In the absence of increased volatility, we are likely to see further strength in other currencies. Both Europe and China have seen improving economic data, while the US economy is growing slightly more slowly than the market was expecting.
While the euro is overbought in the short term, the fundamentals are beginning to point to it outperforming the dollar over time.
The pound is looking strong against the dollar, but struggling against the euro. This will probably continue until we start to see constructive news regarding the Brexit negotiations and the result of the general election on the 8th of June.
Emerging market currencies are always negatively affected by equity market volatility. We can expect them to strengthen modestly until some sort of correction in stocks begins.