The FTSE 100 has experienced a turbulent August. The index reached 7,550 points in the first week of the month, but has fallen to as low as 7,300 points since then. Some of this is due to seasonality, with thin volumes in the summer causing more volatile price movements. However, most of the index’s fall has been a result of investor confidence declining based on political risk in the US and Europe. Here’s why this reduction in investor sentiment could be an opportunity for long-term investors to capitalise.
Changing policies
While the US and Europe face above-average political risk at the present time, the reality is that monetary policy is likely to remain favourable for investors in the long run. Earlier in the year, the Federal Reserve seemed intent on raising interest rates in order to ‘normalise’ monetary policy in the US. In part, they were responding to inflation fears that have not yet surfaced, and which are not expected to do so in the short run. Therefore, it seems likely that they will seek to retain a loose monetary policy over the medium term. This could act as a positive catalyst on the economy and on share prices.
It’s a similar story in Europe. Brexit has caused heightened political risk, and there is a chance that this could increase as the end of March 2019 moves closer. However, in the UK there is little appetite for a significant upward movement in interest rates. Certainly, a 0.25% rise is on the cards, but this would still leave interest rates at just 0.5%. And with the ECB still engaging in quantitative easing, it is likewise adopting a dovish stance. This looks set to continue in future months, which could create favourable conditions for the FTSE 100.
Potential risks
Of course, the FTSE 100 is not without risks. An upturn in the performance of the UK economy could lead to a strengthening of the pound. This could reverse some of the gains made by the internationally-focused index in the last year. However, the reality is that recent economic figures suggest a slowdown is occurring in the UK to at least some extent. This is likely to cause policymakers to become more cautious about raising rates, which could keep sterling pegged back.
Likewise, volatility could remain high. More political developments in the US and Europe could cause investor sentiment to change quickly and substantially. However, the reality is that this is of little concern for long-term investors, since the FTSE 100 remains relatively cheap at its current price level. Evidence of this can be seen in its dividend yield, which is currently 3.8%.
As such, and while further falls cannot be ruled out in the near term, the FTSE 100 appears to be worth buying. Downbeat investor sentiment seems to have created an opportunity for long-term investors to capitalise.