Pressures continue to build but markets so far have been resilient

International Monetary Fund managing director Kristalina Georgieva. Picture: AFP

Whatever happened to the market correction? Where is that 10 per cent drop we were supposed to have had by now?

Well, as it turns out, viewed by a bear, we are about half way there: the ASX is now down around 5 per cent from mid-August. Moreover, the wall of worry pressing on investors has widened since then.

This week the International Monetary Fund has further trimmed global growth forecasts, which will weigh on sentiment.

As Shane Oliver, chief economist at AMP Capital, puts it: “The extent of the rally (in shares) has left them vulnerable to a deeper pullback.”

The immediate concern for investors is that we may be facing a drawn-out correction where the market takes weeks or months for a correction to run its course. Under such conditions investor confidence could be steadily undermined (technically, a correction is a drop of 10 per cent or more top to bottom).

The new wave of investors who entered the market in mid-2020 have known nothing but rising prices as our market posted 11 consecutive positive monthly returns until it changed course in August.

Longer-term investors will know well the recovery from the last crash in March 2020 was remarkably swift. Memories have to stretch much further back to recall the realities of even mild bear markets where prices can drift lower for months on end

The single biggest threat to share price levels is inflation. Serious concerns over inflation have been proven correct with Europe’s energy crisis now adding further pressure. It’s not just that inflation may be here for longer but in a worst-case scenario even stagflation – that 1970s horror double of rising inflation and slow growth – could be on the agenda.

At the same time two arguably routine concerns have popped up to threaten the theory that share prices can keep rising because there is nowhere else for money to go.

The first is the latest bout of property finance fear in China surrounding developer Evergrande and its potential dampening effect on the Chinese economy. The second is the ongoing effort to solve the US debt ceiling debate. Both these concerns have emerged on markets before, though every time the dynamics are different and the impact is never positive.

So will the two-month slowdown extend to a full bear market – Oliver suggests investors would need to see a recession, adding that this looks very unlikely.

The underpinning of the market rise we just witnessed has been low interest rates and recovering profits. Interest rates remain low and the earnings rebound is alive and well. Fund manager surveys suggest 25 of the 32 key sectors on the ASX will have improved earnings in 2022.

But the heart of the matter is whether investors here and overseas will continue to pay expensive prices for shares.

Inside our own market, the vulnerable will be among industrial stocks and some financials which have run well head of where they were before the Covid crisis broke.

In contrast the big miners are down between 30 and 40 per cent in recent months as iron ore halved from more than $US200 to nearer $US100 a tonne – they are among the cheapest stocks in the market with elevated dividend yields of up to 10 per cent or more.

BHP for example is now at $37 which is roughly where it was before the Covid crash. CBA by contrast is around 20 per cent above pre-Covid crash levels

A number of broking firms have released forecasts which suggest there is very little left for share investors over the rest of the year – others have seen their modest target breached but have not upgraded targets in response.

“We continue to see the broader trend in global and Australian shares remaining up once the correction has run it’s course,” Oliver predicts, though he doesn’t say when that turn will come.