Gneiss Head of Capital Markets Rich McGlashan's latest blog considers current market trends across the energy and natural resources sectors.
Breaking up is hard to do, especially for individuals when it’s from ingrained behaviour generated through extended classical conditioning.
In a market context this related to a decade plus of supportive monetary policy and the almost hard-coded behaviours that has driven in participants. The cycle has been protracted and we’re now in a transitory period of unidentified duration towards more ‘normalised’ times – at least from a valuation stand-point.
This period has been characterised by multiple dynamics but almost all are symptomatic of the easy monetary conditions underlying the global system. The broad ‘zero rate’ level of policy rates coupled with an understandable and justified lurch to focus on ESG considerations with a greater weighting has driven excesses in asset markets, both in a broad sense but also to more extremes in narrow and specific pockets of asset markets. The current transition will continue to test the Pavlovian response of buying weakness in equity markets specifically and risk assets more broadly.
After a period where thematic investing has been prevalent, with only a secondary (if a factor at all) focus on hard revenue, profit, income and valuation metrics – fundamentals will again come into sharp focus. The rather orderly (hedged) pull backs we’ve seen thus far have been characterised by the compression in financial multiples. A manifestation of a partial cooling in investor sentiment. The second element is the downgrade cycle that’s underway, driven both by cost escalation and slowing growth. This cycle will take time; many quarters of downward revision are most likely before a new base level is achieved. During this process, asset markets will find it hard to perform broadly for anything other than brief episodes. Supply through IPO will at least temper, as will the support derived from M&A. The UK equity market – broadly trades on 13x earnings historically – it trades closer to 10x currently, on a prospective basis. The problem is this can’t be relied upon, given we know aggregate forecast and delivered numbers are in the process of falling.