Still a disadvantageous risk-reward profile in the equity market for the time being / Delay investment decisions until after 23 June
Since the beginning of March the DAX has moved as sluggishly and as sparingly as a bear in winter. The trading range of the German benchmark index was mainly between 9,500 and 10,300 points. The reporting season is over, there is no relevant company news. Only very few investors dare leave cover in view of an imminent Brexit, even though the severe negative factors of the recent past (falling demand from China and the emerging markets, fluctuating currency exchange rates, a collapse in the oil price) have been factored in and a trend towards recovery is visible.
The good news is that from the second quarter onwards company reports will be better again. However, earnings growth is only likely to improve at a modest rate, and the above average earnings recovery forecast for the energy sector and related sectors will also certainly be unable to make a significant contribution to boosting earnings growth due to the now smaller size of the sector (especially in the S&P and in the Euro Stoxx). Because there is a lack of earnings growth in equity markets throughout the world, in our view it is unlikely that the equity markets will reach and maintain a permanently higher price level in the near future.
Notwithstanding this there should be good opportunities on the equity markets in the future, not least because the nervousness of the spring has meanwhile dissipated significantly, which is reflected among other things in the persistently low level of the VDAX and VIX volatility barometers. We do not expect this low volatility / favourable mood to persist in the long term.
Even though we assume that the Fed will slightly increase the funds rate in June of this year, the low interest rate environment on global capital markets will persist for a long time to come. The lack of investment opportunities thus remains severe and makes it likely that in future equity investments will see heavier demand again than over the past few months. Stabilisation of earnings growth at a lower level following the 2016 transition year is likely to contribute to equity markets becoming more stable again.
However, as is well known, on 23 June the markets are threatened by an event which in the most extreme case could affect markets in the longer term. We do not believe that Brexit will occur (DZ BANK probability 40%), and this would end the currently ongoing “little ice age” on the equity markets and lead to higher prices.
If Brexit does occur however, the equity markets will for the time being lose an anchor providing stability and a new “greater ice age”, in which the equity markets find a new equilibrium, would be likely. In our opinion this would last for up to four weeks and would involve share price losses which could be significant in some cases.
These will presumably be more pronounced than the real “damage” of Brexit which according to our estimate is well below five per cent of fair value for the DAX. Correspondingly, a substantial fall in price (e.g. between five and ten per cent) in the German benchmark index would be an opportunity to buy in our view.
For the time being, however, due to the discussed forecasting risk of “Brexit” we still consider there to be a disadvantageous risk-reward profile, so investment decisions should definitely be postponed until after the referendum.