Comment: Hurt by market rout? Let patience prevail

First, our thoughts and sympathies today must be with those who have just suffered a distressing loss of money. I refer to all those rushed into buying an equity ISA before the 5 April deadline for the financial year just ended – only to be battered by the stock market rout last week.

Bill Jamieson. Picture: Ian Rutherford

How galling it must have been to be chivvied along, urged to fill in and complete all those forms, checked your fund and stock selection, written out the cheque, and then posted it in plenty of time to be invested only to have that lump sum hit within a week by a nasty sell-off. Fears of a new dotcom crash built throughout the week, wiping some £20.2 billion off the value of the FTSE-100 Index. The main index fell 1.2 per cent to 6,561.7 while the mid-cap FTSE 250 fell back 1.6 per cent to 15,898.37. These declines came fast on the heels of sharp corrections in US stock markets.

Investors who hoped that diversification into overseas markets would provide padding against such shocks fared little better. European equities suffered a fall of 2.9 per cent on the week. And investors who bought into Japan, swayed by glowing analyst rhetoric on the efficacious effect of “Abeconomics”, would have been shocked to find the Nikkei 225 Average tumbling 7.3 per cent on the week.

Now the warning signs have been flashing for some time that shares in high tech, internet and social media companies have been on fairly expensive ratings for some time. And the latest euphoric valuations on a rash of initial public offerings (IPOs) were particularly vulnerable to second thoughts and setback.

Last week’s downward bump re-inforces the advice I have consistently given here that the most prudent way into ISAs is by regular monthly contribution so that investors avoid exactly the type of upset witnessed in the past few days.

Heads are easily turned by the huge rises in internet, technology and social media stocks. Valuations have soared on the belief that those steep gradients of customer and revenue growth would continue in a straight line far into the future.

Now comes an inevitable sell-off. But last week’s correction did not come out of the blue. Many high-fliers had been weakening for some time. On Friday shares in Facebook fell by 7 per cent – taking its decline over the last month to 22 per cent. Shares in Twitter are down 20 per cent over the last month.

So why the sudden sell-off now, particularly when recent pointers on the US economic recovery have been encouraging? The underlying cause is the US market’s apprehension over the ending of the Federal Reserve’s policy of quantitative easing (QE). The central bank now looks on course to end its emergency asset purchase programme this year. It is still buying bonds and thus providing liquidity, but this may only have a few more months left to run. Investors have thus cast a wary eye over those sectors that have performed strongly since the QE programme began – and considered these to be particularly vulnerable to correction.

Add to this the euphoria that has surrounded some of the recent corporate deals in the US. Facebook’s recent $2 bn (£1.2bn) purchase of Oculus, a virtual reality company but little more than a start-up, raised searching questions as to why Facebook considered such an unbroken bolt-on was so necessary. Might growth in Facebook’s core business be in some doubt? And if so, did Facebook shares merit a price earnings multiple of 70? That has since come down to 57 – still ultra-high by conventional standards.

Still to come is the stock market listing of the Chinese internet giant Alibaba, where the stock market price tag could be as high as $190bn – a valuation that could draw a vast sum from other shares in the sector.

All this said, I am not convinced that we are on the cusp, of a “Dotcom Bust 2”. Despite these recent excesses, the technology sector is much less over-valued than it was in 1999-2000. And finally, a consolation of sorts for those whose 2013-14 ISA leant heavily towards emerging markets. These have not performed at all well in the past twelve months. But they have just had another positive week. The MSCI Emerging Market Equity Index gained some 0.9 per cent last week, and is now up almost eight per cent since the middle of last month.

Some analysts argue that emerging markets are benefiting from a rotation out of developed market equities.

What goes round, comes round? Whatever the reason, it is another demonstration again of the virtue of patience and not selling out every time a favoured sector hits a bad patch.