Fidelity comment on recent market volatility

In light of recent market volatility, Fidelity International's Director of Asset Allocation, Trevor Greetham, comments: "Markets that have risen a long way without a pause are at risk of sharp short-term corrections as we are seeing now. This can be healthy as unrealistic expectations are brought down to earth. Often there is no clear trigger but a consensus usually forms around a particular cause. This time it's a tightening of stockmarket regulation in China, aimed at dampening speculation, and a quarter point rise in Japanese interest rates, apparently causing some people who had borrowed yen to sell shares so they can pay down the debt. Neither event poses the sort of threat to Wall Street that should result in a 500 point daily drop in the Dow Jones index so these explanations don't make a lot of sense.

"Long term investors would do best to step back and view yesterday's correction in a longer term, economic cycle context. The world economy has enjoyed a strong upswing since the dark days of 2001-3, to the benefit of stocks, particularly those linked to commodity prices or the emerging markets. The macro outlook for 2007 is more finely balanced. Global growth indicators currently suggest a slowdown in line with long run trend growth. Inflation indicators point to a new disinflationary trend on the back of a lower oil price. This ought to be a fairly good backdrop for financial assets, but perhaps not as good a backdrop for stocks as we have become used to.

"The main risks to stocks in 2007 come from two sources. First, there are signs that US housing market weakness is leading to a tightening of credit standards, particularly for so-called sub-prime borrowers. If credit isn't available then the level of interest rates becomes academic and the Federal Reserve loses some of its power to control events. US consumer spending could disappoint and, bearing in mind that America has never had such a big trade deficit, there would be substantial knock on effects felt in the rest of the world, China included. In this scenario, investors would do well do have some exposure to bonds. Bonds generally do well when global growth slows. Secondly, the political situation in the Middle East remains volatile. A sharp run up in oil prices could reignite inflation concerns and lead to further rate hikes in the UK and elsewhere. This would be especially troublesome for stocks if the world economy and corporate profits growth were slowing at the same time. In this scenario, some exposure to commodities would be of benefit. At the moment I put greatest weight on the global slowdown scenario. I am neutral on stocks, preferring to overweight bonds and global property at the expense of commodities and cash in our new Multi Asset Strategic Fund.

"Whatever the outcome, recent events pose a stark reminder that diversification has never been more important. In a relatively low inflation world, stocks are unlikely to keep delivering the sort of returns we've seen in recent years. The correlations between stocks, bonds and commodities are low. Long-term investors looking for smoother returns and a spread of risk should diversify their exposure across a range of asset classes, rather than trying to dip in and out as equity markets move."