Low volatility despite a bumpy ride

It has been a steady start to the year, as the positive economic and wider market momentum that began last summer has persisted through the first quarter of 2017.

A confident Wall Street has led global equity markets higher and the historically more volatile assets, such as commodities and Emerging Market equities, have enjoyed strong returns. Higher equity valuations and general investor optimism have been supported by a cyclical pickup in global economic activity. Growth in both the US and UK is now running at robust levels and the Chinese economy continues to defy its critics as growth rates have picked up marginally in 2017. Chinese authorities succeeded in catching markets off-guard in January, strengthening the renminbi’s trading range by the most in more than a decade, causing the currency to rally strongly. This was a timely reminder from China that they have a significant monetary arsenal at their disposal and, more importantly, are willing to use it as a means of protecting their currency and stemming capital outflows.

While I believed that economic conditions at the start of 2017 would prove supportive of reasonable market returns, I have been surprised by just how low volatility has been in the face of plenty of potential macro speed bumps. In March alone, markets have weathered an interest rate rise in the US, the triggering of Article 50, Dutch elections, a seemingly le ss dovish Bank of England and European Central Bank and President Trump’s first major policy defeat with his failure to repeal Obamacare.

I have also been surprised by how well both sovereign and corporate bonds have held up in the face of rising growth and inflation expectations. There have been some potential cracks showing in the economic recovery story, such as weaker German factory orders and Eurozone inflation moderating from early-year highs. Lingering concerns surrounding the long term health of the economy stemming from such readings may well be behind the ongoing support for perceived lower risk assets, namely gold and investment grade bonds.

Given how strong markets have been this year, one should not be complacent or surprised if there is a correction in risk assets, with events such as the upcoming French elections possibly providing fuel for greater volatility. Nonetheless, I continue to see the overall economy picture as positive and supportive of markets at present.

Fred Mahon is the fund manager of JM Finn’s Coleman Street Investments service. Click here for more information.

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