It is said that bull markets “climb a wall of worry”. As investors obsess about threats, sharemarkets slowly rise because the smart money looks forward.
Consider the past six months for equities. As the global economy strengthened in 2018, sharemarkets sold off in the fourth quarter. Savvy investors anticipated a slowdown in global growth and priced equities accordingly. Novices looked backwards.
As markets tumbled, fears about global growth gre w: the United States-China trade war would wound trade; an increase in US interest rates would weigh on global growth and sharemarkets; China’s economy was slowing faster than expected; and parts of Europe were a mess.
Back home, the housing correction quickened and more economists predicted a hard landing in property prices that would hurt consumer sentiment and spending. Also, the market focused on the likelihood of a Labor victory at this year’s Federal election and its negative implications for the economy.
But as sentiment soured, the S&P/ASX 200 index has rallied about 8 per cent since December. The market is climbing the wall of worry.
Perhaps the damage was done when US stocks fell around 20 per cent from their peak and our market tumbled 14 per cent. The US correction factored in much bad news, so it’s possible that global equities have had their low for the latest economic downturn.
Macquarie Wealth Management this week published research showing the last two US economic slowdowns (2011 and 2016) were accompanied by a drop of around 20 per cent in US equities.  Back then, the US economy had a “near miss” with recession and equities eventually recovered. 
Moreover, the average duration of a near miss is seven months, found Macquarie. It says we are six months into the US Slowdown phase, meaning the worst might nearly be over. That could explain why global equities have rallied: investors are starting to price in a Recovery phase. 
Using the OECD’s leading indicator of growth, Macquarie divides the global economic cycle into four phases: Downturn, Recovery, Expansion and Slowdown.  The OECD’s leading indicator on US economic growth has a high correlation with US equity prices and thus influences sharemarket sentiment in other markets. Good judges follow the US leading indicator closely.
The US Slowdown phase ran from March to July 2018, before the Downturn phase began in August. When markets realised the US economy was likely to slow a little faster than expected, equities tanked from mid-September and the sell-off intensified in the fourth quarter.
Historically, Australian equities fall by 7 per cent during the Downturn phase. We’re slightly above that now, so Macquarie’s take on the four phases of the economic cycle is holding true. If the pattern repeats, the market is poised for solid gains this year. 
The second stage of the cycle, Recovery, delivers an annualised total return of 23 per cent, on average, says Macquarie. The Expansion phase returns 19 per cent. If the second half of 2019 is the Expansion phase, our market will test its previous all-time high of just over 6,800 points. 
If this four-phase cycle plays out as expected, investors should be increasing equities exposure in portfolios and adding risk. Some good judges I know are doing just that. They believe sharp falls in global equities have improved valuations when the US economy is still strong.
I’m not as bullish. I expect the Downturn phase to last longer than previous periods: the increase in US interest rates and US/China trade war were not factors in the 2011 and 2016 downturns. Nor was an unfolding correction in Australian house prices.
My base case over the past six months – to take a more defensive stance in portfolios – remains unchanged. That strategy involves holding more cash and gold in portfolios and, if buying stocks, favouring consumer staples, utilities, infrastructure and some property trusts. 
If markets enter the Expansionary phase sooner than I expect, the defensive strategy could sacrifice relative returns as fund managers favour cyclical growth stocks. But I’d rather miss the early part of a recovery and maintain a focus on capital preservation. 
The outlook for global equities is delicately poised. The big unknown is how markets will fare as an unprecedented period of quantitative easing ends and interest rates rise. These and other elevated risks mean the economic cycle might not play out in the same way.
Selling overvalued stocks into market rallies, taking profits and adding to cash positions in portfolios remains my preferred strategy. It is hard to see the next global bull market in equities underway in 2019 given the risks for US and Chinese growth and thus global sentiment.
Arguably, the biggest difference in this downturn phase is that Australia’s economic prospects have dimmed. Falling house prices, stagnant wages growth, record household debt and potentially a Labor government this year with high-taxing, high-spending policies. 
My guess is the “wall of worry” will get a little higher in the next six months, prolonging the downturn phase and signalling the end of the global bull market. 
Chart 1: S&P / ASX 200 indexSource: ASX

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• Tony Featherstone is a former managing editor of BRW, Shares and Personal Investor magazines. The information in this article should not be considered personal advice. It has been prepared without considering your objectives, financial situation or needs. Before acting on information in this article consider its appropriateness and accuracy, regarding your objectives, financial situation and needs. Do further research of your own and/or seek personal financial advice from a licensed adviser before making any financial or investment decisions based on this article. All prices and analysis at January 30, 2019.