Why you should ignore the market's mood swings
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MoneyWeek Editor
John Stepek Sep 02, 2010
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Investors can be forgiven for feeling a tad confused.
A couple of days ago, the world was ending. Economic news from the US was grim. We were mere inches away from the entire Western world turning Japanese.
Yet now it seems that everything's hunky-dory again. Manufacturing data released yesterday was less awful than expected in the US. And the same went for China's manufacturing sector.
Cue a massive rebound in the markets. Stocks leaped. 'Safe havens' such as Treasuries, the dollar, the yen and the Swiss franc, all sold off.
You can see why my colleague Dominic Frisby calls these 'traders' markets'. That's a polite way of saying that only gamblers need apply. But you don't have to bail-out of stocks altogether. You just need to focus on what's important…
What was behind yesterday's market rally?
So what was behind the massive rally in the markets yesterday?
Let's start with China's manufacturing boost. The purchasing managers' index rose from 51.2 in July to 51.7 last month. A similar index from HSBC also rose, from 49.4 to 51.9. On these sorts of indices, a number below 50 indicates that a sector is shrinking – above 50, and it is growing.
August is seasonally a good month for the index. But investors were relieved all the same. They've been worried that Chinese officials would tighten too hard and derail the global economy.
Perhaps they were worrying too much. As my colleague Cris Sholto Heaton pointed out recently in his free MoneyWeek Asia email, there's no doubt that activity in China has slowed this year. But equally, the government is unlikely to keep blithely tightening policy if it thinks it'll drive the economy into a slump.
That's not to say that China doesn't have any problems – it has plenty, from its bad-debt laden banking system to its over-dependence on infrastructure spending. But these are basically the same problems it had before the credit crunch. China may well face an economic crisis of some sort in the future, but unlike the Western world, it's not currently trying to dig itself out of a deep hole.
The US is still in poor shape
The US, on the other hand, is. The big fear this week – and it hasn't really gone away, despite the rebound – is that the Fed can't do much more to help the economy out. And even if he wants to pump more money into the system, Ben Bernanke is facing resistance from his more wary colleagues on the Fed's interest-rate setting Open Market Committee.
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So the news that the US manufacturing sector did better than expected in August provided some welcome respite. The PMI rose from 55.5 in July to 56.3 last month. Most analysts had expected a fall.
But for all that, there was also rather a lot of miserable news out yesterday. For one thing, US car sales fell by more than had been expected. Indeed, it was the worst August for car sales in 28 years.
Of course, the year-on-year figures were bound to be bad. This time last year, the US government and many others around the world were paying people to scrap their perfectly serviceable old cars and buy new ones. But sales were still below expectations, coming in at an annual rate of 11.5m, compared to 14.2m last year.
"Cash-for-clunkers" schemes were the kind of nonsense idea that only governments can really get away with – to boost consumption by prematurely destroying existing goods so that people have to replace them.
It was only ever going to be a short-term sugar rush. Because if you replaced your car last year, you don't need to buy a new one this year. (Unless of course someone offers you even more money to trash that one and swap it for a new one). So arguably, you'd expect car sales to be generally weaker in the coming months.
But perhaps of more concern was a survey suggesting that US private-sector employment fell for the first time this year in August. 10,000 jobs were lost, according to ADP Employer Services. Manufacturing and construction were the hardest-hit industries.
How to invest in times like these
Investors were happy to ignore this data – for now. Following the August slump in stock markets, people were no doubt looking for reasons to buy in. So how do you invest for times like these? My advice hasn't changed since Tuesday: Let the market have its mood swings. For example, the all-important monthly non-farm payrolls data comes out tomorrow. The forecast is for a 41,000 or so rise in private sector jobs in August. Depending on whether that beats or misses, and by how much, we could see another surge or fall in the market.
So if you want to be able to sleep at night through all the ups and downs still to come, we'd stick with the stocks of big, solid companies that will at least pay you a decent dividend income as you hold on to them. My colleague David Stevenson had more to say on the importance of dividends on Friday.
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