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Market action so far in 2013 has all the hallmarks of speculative fervour followed by a blow-off, in this case led by Abenomics. After yesterday's snapback rally, portfolio returns will be determined by three post-crisis trends that stand on a knife-edge: U.S. corporate profit margins, low global interest rates and emerging markets outperformance.
The Wall Street Journal's Jon Hilsenrath, apparently the Fed's unofficial spokesperson, sparked a market rally yesterday after relaying comments assuring markets that the Fed is not poised to withdraw stimulus. Domestic market sectors such as REITs enjoyed a welcome, partial recovery from deeply oversold levels.
Barring incident, global markets are likely to settle out for the next few sessions, allowing investors to plan an investment strategy rather than react to daily market mayhem. Importantly, however, the trend of steadily declining global interest rates that has shoved yield-oriented investments higher appears to be over.
Stabilization in U.S. interest rates – at higher levels – will be the first order of business now that the Fed has clarified its position. In hindsight, the fact that one off-hand comment by Ben Bernanke caused a global market meltdown makes it clear that the Fed will not be able to even mention the word "tapering" for the foreseeable future, never mind actually withdrawing from the market.
U.S. earnings season unofficially begins on July 8 with Alcoa's quarterly results. The past few years have seen U.S companies cleverly wring out profit growth despite minimal revenue improvement. Early signs, however, indicate that this trend may be exhausted and investors should prepare for a bumpy ride as companies disappoint.
For Canadian investors, the most important investment trend in question is emerging markets outperformance of global markets.
The past seven years has seen the S&P/TSX Composite index moving almost entirely in accordance with the MSCI Emerging Markets index (MXEF). With this in mind, market action in the past month has been distressing – global investment assets are fleeing emerging markets and driving the MXEF lower by more than 10 per cent.
Looking ahead, I suspect that the upward pressure on interest rates will subside and the extreme levels of volatility in yield-related sectors will fade. But rates are unlikely to fall further, which means the outsized returns on utilities, corporate debt and REITs may be a thing of the past.
Brazil's economic struggles and the barrage of downgrades on Chinese economic growth imply that the new trend of developed market outperformance will continue. Adjusting to this will be Canadian investors' biggest challenge in the coming months.
Scott Barlow is a contributor to ROB Insight, the business commentary service available to Globe Unlimited subscribers. Click here to read more of his Insights , and follow Scott on Twitter at @SBarlow_ROB .
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