Good news casts a market pall

Though the direct effect of quantitative easing on the economy has been minimal, the stock market's perception of its withdrawal is far more influential.

Markets are back performing familiar tricks – good news is actually bad news once again as the prospect of tapering directs market movements, pushing global equities to post losses for the past four days.

The good news comes in the form of positive economic data, as the latest batch has the US economy expanding at a moderate pace and stronger-than-expected employment figures. Standard & Poor’s has even upgraded its outlook for Spain’s debt.

To a logical investor, all of this should in fact be what it is – good news. But equity markets and investors alike are hooked on the notion of needing quantitative easing for equity market returns. Investors in developed markets have become accustomed to their respective indexes posting gains week after week, month after month. A string of losses is very much foreign territory in a domestic rally that is nearing 18 months. Since the start of 2012, the Australian market has only recorded six monthly losses. A complete turnaround when compared to the previous two years.

Although the thought of tapering is giving the market terrors once again, JP Morgan and UBS remain bullish on 2014 and both have a year-end forecast of 5700 points. Based on the current level of the ASX 200 the forecasts suggest an 8 per cent gain. Albeit lower than the 13 per cent growth seen this year alone, 8 per cent is likely more achievable and sustainable over the long term.

When it comes to quantitative easing it realistically is near impossible to predict when the Federal Reserve will begin winding back the stimulus as the market knows it. Despite this, markets should be confident it will happen. Market strategists and investors have been trying to predict the outcome beyond long-term government yields rising and the impacts associated with the withdrawal of liquidity. The market perception of quantitative easing however may be far more influential.

It is important to remember quantitative easing provided liquidity to what was initially a solvency crisis. As former Fed official Dr William Poole says, the direct effect of quantitative easing has been minimal. Still, investor behaviour and sentiment could trump underlying fundamentals in the short run, at the very least.

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