London may be eclipsing New York as a financial centre, but Britain's stockmarket still "follows the lead of Wall Street", as Tony Tassell says in the FT. During the past ten years, the correlation between UK and US stocks has been 80% (100% would connote lockstep), according to Merrill Lynch's Khuram Chaudry; the link reached 90% (during the dotcom bubble) and fell to 45% in mid-2004. This year it has dropped to 59%, but has bounced back to around 75% amid the recent turmoil. A key reason for the markets' close relationship is that North America accounts for about 40%-50% of the FTSE 100's sales. The ten most-exposed firms make 46%-68% of their sales there.
And when Wall Street sneezes, Britain catches a cold, says Tassell. Since 1990, the two markets have moved in the same direction, but Britain has tended to lag in the up years and fall further in the down years. During the latest jitters, it has been the same story. From 26 February until late last week, the FTSE 100 had dropped by about 5% and the S&P 4%. Meanwhile, Germany's DAX index, highly exposed to the US economy and Japanese shares, had done even worse.
So why do markets tend to move together, especially on the downside?
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As the Investors Chronicle has pointed out, investors see shares in developed economies as substitutes for each other, which binds markets together; hedge funds' increasingly global strategies and the overall globalisation of trade and finance are also commonly cited factors. Last year, investment bank UBS pegged Europe and Japan's correlation with
Wall Street at 90%, while, according to Merrill Lynch, over the past four years weekly returns in emerging markets have exhibited a 66% correlation with those of the S&P 500 index.
Wall Street sets the global tone, says David Fuller on Fullermoney.com.
In good times, when US markets are steady to rising and liquidity is abundant, Wall Street's "leash" loosens, with money flowing into other typically more volatile markets, which then outperform on the upside. But when Wall Street weakens and liquidity recedes, the flow of liquidity is "yanked back" and other markets experience sharp corrections. Over time, Wall Street's influence is likely to wane as larger economies and stockmarkets begin to fulfil their potential. But for now, "uncoupling remains a pipe dream".
