The stock market is doing well in 2024. FTSE100 has risen by 6.2% since the turn of the year, while the S&P500 has risen by almost 15%. European stocks have also performed well.
However, the Bank of England (BoE) warned in its latest financial stability update on June 27 that investors may be becoming somewhat complacent.
Prices of many assets such as stocks and bonds remain high relative to historical averages and some have continued to rise...(investors) place less emphasis on risks such as geopolitical developments or persistently high inflation. These risks make it more likely that there could be a sharp correction in asset prices..
Bank of England Financial Stability Review, June 2024
As a reminder, a stock market correction is generally defined as a decline of at least 10% from a recent high, while a crash is defined as a decline of 20% or more.
One positive aspect mentioned in the report is that UK households and businesses have remained resilient despite the impact of higher interest rates. And it says the UK banking system is strong enough to cope with a deterioration in the economy.
The stupid view
Now, the BoE is not predicting a correction here. It is simply pointing out the increased risk of one due to rising asset prices and possible geopolitical developments.
In March last year, the bank also pointed out the risk of a “sharp correction” because of “stretched” Asset prices, but that has not happened. And most FTSE 100 stocks do not appear overvalued to me. Quite the opposite.
In addition, there is no need to be afraid of corrections in the stock markets. They can be very lucrative for investments because the chaff is often sold along with the wheat.
Investment legend Warren Buffett advises: “Be fearful when others are greedy, and greedy when others are fearful.” This is an important attitude for a long-term investor.
A stock I would buy during a downturn
At the moment I would like to increase my participation in Rolls Royce (LSE: RR). The stock is booming, rising 350% in three years as the engine maker recovered from the turmoil of flight groundings during the pandemic.
In the most important Civil Aerospace division, engine flight hours returned to 100 percent of pre-Covid levels in the first four months of 2024. By the end of the year, they could reach 110 percent of 2019 levels.
At the same time, the company’s defence division, which supports over 160 armed forces worldwide, is experiencing high demand and rising military budgets. The company’s nuclear reactors are to power submarines for the Australian Navy as part of the trilateral defence pact AUKUS.
My issue here is valuation. The stock currently trades at 30 times forward earnings, which suggests it is perfectly valued. If the civil aviation industry were to be hit by, say, another pandemic or outbreak of war, the company could miss its financial targets.
However, if there is indeed a sharp market correction, I would be happy to bet on the stock. By 2027, the company aims to quadruple its operating profit from 2022 to £2.5-2.8 billion. And it is aiming to increase operating margins to 13-15 percent, up from 5.1 percent in 2022.
In addition, the company expects £45 billion worth of new programmes to start in its defence markets by 2050, creating significant long-term opportunities.
The post “Brace for a stock market correction, says Bank of England” appeared first on The Motley Fool UK.
Further reading
Ben McPoland holds positions in Rolls-Royce Plc. The Motley Fool UK has recommended Rolls-Royce Plc. The views expressed on companies mentioned in this article are those of the author and may therefore differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool, we believe that considering a diverse range of insights makes us better investors.
Motley Fool UK 2024
