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Why are stock markets falling?

IT’s been another brutal week for stock markets with lackluster UK growth and still fast-rising US prices adding to investors’ reasons to be pessimistic.

The S&P 500 index, representing the giant US stock market, is now down 7.6% over the past five days while in the UK the FTSE 100 is 4.1% lower. The falls come on top of a challenging year so far for share investors with global markets, as measured by the MSCI World Index, now 18% lower year-to-date. A 20% fall would mean we have entered a bear market.

What’s behind the recent stock market falls?

Many of the reasons behind the stock market falls are well-documented: inflation, rising interest rates, an energy crisis made worse by Russia’s war in Ukraine. But it is how each of these factors intersect and seem to make each other worse that is really hurting investor sentiment.

As the year got under way, investors were processing the implications of higher interest rates, which were needed to help tackle rising inflation but would harm the returns of both highly-valued bonds and the leading companies in the stock market. Then came the war in Ukraine which caused already-high energy prices to spike even further.

This in turn fed through to higher inflation overall, which meant that interest rate rises had to be accelerated. And now interest rate rises and inflation are combining to hurt overall economic growth, leading to fears of recession.

What Mr Market is thinking

The market has been processing all this negative information with a high degree of uncertainty about how it all plays out from here – and it appears to be pricing in a worse-case scenario.

In fact, according to DataTrek research reported by Yahoo Finance this week, the S&P 500 is on track for its worst year-to-date performance since 1962.

Things look bad – but are they really that bad?

The latest news around slowing economic output in the UK has hardly improved sentiment, but there are glimmers of optimism too.

Annual US inflation came in at 8.3% for April. That’s still high, but actually cooler than the 8.5% posted in March.

What investors should do as stocks slide

For investors, it’s been a head-spinning ride. As well as widespread losses, there has been a significant reversal in leadership in stock markets. There’s no clearer indicator of that than the race to be the world’s largest publicly listed company.

For several years it has been the giants of US tech that have slugged it out, with Apple edging ahead of Microsoft, Alphabet (home of Google) and Amazon and surpassing a market value of $3trillion at the turn of the year.

But tech and other growth-oriented companies have suffered as inflation and interest rates devalue their assumed future earnings. By contrast, those companies that stand to benefit from higher prices have flourished.

So much, in fact, that Apple has now been overtaken as the world’s most valuable company listed by Saudi Aramco, the Saudi Arabian oil company.

Investors are reassessing the lofty valuations of tech companies amid worries that rising prices and the cost-of-living crunch will see consumers’ tighten their belts. This sea-change has already been witnessed in the underperformance of fund investor favorites like Scottish Mortgage Investment Trust and Rathbone Global Opportunities Fund.

Meanwhile, the oil sector remains one of the few bright spots for investors so far in 2022. Fidelity Select 50 favorites Franklin UK Equity Income Fund and Liontrust UK Growth Fund currently both hold overweight positions in BP.

For more thoughts on the direction of the oil price from here, watch our latest Investment Outlook video on the commodities sector.

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