News

A call to come out of mourning

12 June 2009

Nevertheless, some investors are voicing frustration with economic trends that are nothing more than "less bad" and are demanding to see "better." Some who have not participated in the strong gains over recent weeks are wondering if they have missed their chance to share in the first significant equity rally for some time. A study last week by Barclays Capital showed that the average portfolio was still 14% in cash.

However, an important point to remember is that recovery is a process, not an event. Any investor pinning their hopes on one event, one announcement, one data point before entering the market will be taking a lottery-sized risk. A broad spectrum of events, actions and reactions will eventually turn the tide. And what we are seeing right now is indeed an improving situation across many facets of the economy.

Earlier this week, the Organisation for Economic Co-operation and Development (OECD) published a revised economic outlook which suggested the recession was easing in several countries. Its new readings indicated a greater likelihood that the UK’s economic decline had troughed.

That sentiment was backed up last week by some of the most encouraging economic data that we have seen during this downturn. The May Purchasing Managers Index (a monthly gauge of business activity) showed its largest one-month jump in history. The service sector, the largest contributor to UK output, expanded for the first time since May 2008. The index rose to 51.7 from a reading of 48.7 in April. A reading of more than 50 indicates a majority of managers see an expansion in activity, while a reading below 50 signals contraction. The manufacturing and construction (yes, even construction) industries also gave a reading over 50.

The green shoots are being seen far and wide and that is buoying optimism that the recovery is not just underway but that it has the strength to continue. What we’ve also seen is that the past three months’ rally has demonstrated the pent-up will of investors to regain an appetite for risk after a long, deep and very painful bear market.

And so I come to the Coppock Indicator.

In 1945, church authorities asked economist Edwin Coppock to devise a low-risk, long-term buying signal that they could use to time their investments in the US’s Dow Jones Index. Coppock was a great believer in what is now popularly known as behavioural finance. He believed that markets were driven as much if not more by collective emotion than collective reason and he believed that investors panic-sold to avoid losses. He thought market downturns were like bereavements and required a period of mourning. With that in mind, he asked the bishops how long it took for the average person to recover from a bereavement or similar trauma. They said between 11 and 14 months. It may sound very unscientific, but from that conclusion, he developed one of the most accurate indicators of when one should buy the market – any market, not just the Dow. (It doesn’t work as a sell signal, I’m afraid.)

For the technically-minded, the Coppock Indicator is the sum of the 14-month rate of change in an index and the 11-month rate of change, smoothed out by a 10-period weighted moving average. When the result is less than zero and rises, that is a "buy" signal. The deeper it goes below zero before turning, the more powerful the rally.

Since 1962, the Coppock Indicator has predicted 16 US rallies from 17 "buy" signals (it got the timing wrong in 2003). In May, it gave another "buy" signal, not just for the US but for many markets around the world. The UK was one of those markets. It’s like a graphical green shoot. After burrowing down through the darkness of the bear market, it has now turned up towards the sun.

You might be unconvinced by an economic recovery that is being defined by nothing more than a slowing rate of decline. You may be thinking that you’ve missed your chance to participate in the market rally.

Uncertainty is a not an uncommon feeling when dealing with loss. The FTSE100 Index reached its peak in June 2007. After the best part of two years, might this not be the time to stop mourning the loss of the last bull market and decide its time to focus on the potential of the next?

Please note the value of an investment and the income from it can go down as well as up, so you may get less than you invested. The ideas and conclusions in Tom Stevenson’s weekly column are his own and do not necessarily reflect the views of Fidelity’s portfolio managers. They are for general interest only and should not be taken as investment advice or as an invitation to purchase or sell any specific security.Past performance is not a guide to what may happen in the future. Investments in small and emerging markets can be more volatile than more established markets. For funds that invest in overseas markets, changes in currency exchange rates may affect the value of your investment.

By Tom Stevenson, Fidelity