What's worrying investors? Five threats that could derail the bull market

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Sterling has fallen to its lowest level in two months on the back of two big political events - the UK government has received the green light to trigger Brexit, while at the same time Scotland has set the first wheels in motion on the road towards a second referendum.

The pound fell 0.74 per cent (as at 10am on 14 March) to trade at $1.21. Over the past couple of weeks sterling has been edging lower, falling from a recent peak of $1.25 - itself a fall of 16 per cent from $1.49, where it was last June.

Once again, however, a declining pound has not had an adverse impact on stock markets, with the FTSE 100 making a small gain of 0.14 per cent to trade at 7377. Indeed, since the Brexit vote was confirmed on 24 June the index, which at the time stood at around 6000 points, has steadily risen.

But the pound's fall and the Footsie's rise should not come as a surprise.

That's because a cheaper pound is good news for internationally facing domestic companies, whose exports are made considerably more competitive by weaker sterling, thus boosting earnings. Given the international make-up of the FTSE 100, various sectors benefit.

The current question is whether the rally is sustainable, given the various risks on the horizon.

Fund investors are clearly not convinced, with the latest figures from the Investment Association showing a mood of caution: the three top-selling sectors for February were targeted absolute return, strategic bond and mixed investment 40-85 per cent shares.

Adrian Lowcock, investment director at Architas, describes the current stock market rally as 'the most unloved bull market on record', due to the various threats on the horizon. Below we outline five threats that could derail the bull market.

ARTICLE 50 NEGOTIATIONS

Financial markets hate uncertainty and at the moment it really is anyone's guess how Britain's divorce negotiations will pan out.

Prime minister Theresa May is pushing for a so-called hard Brexit, which will involve a comprehensive withdrawal, departure from the single market and tight controls on immigration.

Experts, including Michael Pate and Tim Bennett, partners at stockbroker Killik & Co, expect currencies and markets 'to be hostage to news flow on negotiations' until Britain formally exits the European Union in two years' time.

SECOND SCOTTISH REFERENDUM

There's a new, or at least revived, political risk in town - the prospect of a second Scottish referendum. Last time round the pound fell in the run-up to the vote, with currency traders pricing in a vote for independence.

This, however, didn't pan out, and once the result was announced on 19 September 2014 the pound rallied to a two-year high against the euro and a two-week high against the US dollar. Financial markets were also volatile running up to the vote, but then regained their poise.

Shaun Port, Nutmeg's chief investment officer, comments that 'a breakup of the union could be far more significant for financial markets than leaving the European Union'.

He adds: 'The Scottish National Party is jostling for a second referendum before the UK leaves the European Union; if it gets it, it would lead to materially heightened risk for UK assets.'

WILL TRUMP'S PROMISES SEE THE LIGHT OF DAY?

The expectation of reflation borne out of fiscal policy to boost economic activity has been keeping markets buoyant. Donald Trump has pledged to cut taxes, while also increasing infrastructure and defence spending.

But as Richard Buxton, manager of the Old Mutual UK Alpha fund, points out, the stock market rally hinges heavily on all the pledged tax cuts and spending sprees bearing fruit. There's a risk that this may turn out to be a classic case of markets moving too quickly, too soon.

Given the US stock market is the most influential of all, a setback would likely spill over to other global exchanges.

'A market correction may well play out in the second half of the year,' he warned in our Money Maker interview in February.

'Markets are going up in the hope that Trump's policies will be signed off, but there is always a danger when markets are travelling higher that they melt-up in euphoria.

'There's also a risk of US growth undershooting expectations. It could take longer than expected for Trump's fiscal policies to feed through to economic activity.'

EUROPEAN ELECTIONS

In 2017 a handful of major elections take place, the biggest of which will be in Germany and France.

Both have eurosceptic political parties that have been gathering momentum. If the rise of the far right plays out, the future of the euro will be under threat, an event that could cause carnage for financial markets.

The Dutch general elections are first up (taking place on 15 March) and the view is that if Geert Wilders' PVV party gains seats it will increase concerns around European political risk.

Update on March 16: This, however, did not play out. The nationalist party was defeated, but did gain seats and is now the second biggest in parliament, having previously been the third largest.   

THE END OF QUANTITATIVE EASING...

There is another big unknown: how will financial markets react when the money printing stops? Given that the US is on the path towards tighter monetary policy, quantitative easing (QE) is no longer in place across the pond.

But here in the UK the QE programme last month celebrated its eighth birthday. With the base rate at a record low level of 0.25 per cent, QE is likely to remain in place at the moment, but at some point it will have to come to an end.

Some more bearish investors have sounded the alarm that the bull market UK equities have enjoyed since the financial crisis has been propped up and inflated by QE, rather than rising sustainably on fundamentals such as profit growth.

Therefore, when QE is removed, those in the bearish camp expect a stock market correction to play out. Other sceptics argue there is no proof that QE has helped stimulate the economy.

Laith Khalaf, senior analyst at Hargreaves Lansdown, adds: 'Unwinding QE isn't going to happen in one big bang, it's going to be a slow and gradual process.

'In the meantime we can expect interest rates to remain low for the foreseeable future; while in the short term the stock market can of course head in either direction, history tells us it's still the best place for long term money.'


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