Leading stock indices in many parts of the world have hit record highs this year. Investors should be pleased, but how long can the party keep going?

Coming back from a week’s holiday, my email inbox is stuffed full of comment from institutional investors discussing global equity markets. They serve up a polite reminder that markets tend to move in cycles and that we’re long overdue a market correction.

A correction is typically defined as a 10%+ decline from the 52-week high. A 20% decline equates to a ‘bear market’.

The FTSE All-World index has risen every year apart from two since the start of 2009 and none are bad enough to be considered a correction. This index covers more than 7,400 companies in 47 countries. The ‘bad’ years since 2008’s ‘global financial crisis’ include a 4.1% decline in 2015 and a 9.7% drop in 2011.

As for UK equities, the worst year for the FTSE 100 since the 31% collapse in 2008 was a mere 5.6% decline in 2011.

It is worth noting that these calculations are based on a calendar year. You only have to go back to summer 2015 to find a 10% correction in the FTSE 100 in less than a month amid fears about China.

Join the ride or cash in your chips?

So what are people now saying? David Lafferty, chief market strategist at Natixis Global Asset Management, recalls a recent meeting whereby a wealth manager summarised the situation very well.

They said investors who hadn’t participated in the equity rally wanted to invest because they felt like they were missing out. Those who were already invested said they were nervous and were thinking about getting out. The wealth manager concluded by saying: ‘They can’t both be right’.

Miton fund manager David Jane says investors should be prepared for a near-term market correction, but implies any decline may not be too serious. ‘Equity markets are volatile, and while deep bear markets are relatively infrequent, corrections are a regular feature.’

He says bear markets (20% fall or more) generally occur following a period of irrational exuberance leading to high levels of capital misallocation, or as a result of something bad occurring – sometimes both.

‘Are these conditions prevalent today? There’s evidently a degree of exuberance in financial markets but is this leading to large scale capital misallocation? Looking at recent examples, the internet bubble was clearly vast in scale in the late 90s, and the US housing bubble was also huge in terms of the amount of money concerned in 2007. The same can’t be said of the current period.’

Clearing the election hurdle

If you are nervous, why not put aside cash ready to buy good companies cheaper if upon any market correction?

For example, Seven Investment Management’s 7IM Balanced (GB0033959296) fund now has 12% cash weighting, the highest level since just before the Brexit vote and the fourth highest for 14 years. It currently believes UK equities don’t fully price in economic and political risks.

One of the biggest tests for the UK market comes tomorrow (9 June) when we find out which political party has won the general election.

If you’re reading this article ahead of the result, it might not be a bad idea to lock in some of your profit as anything but a Conservative majority win could prompt a knee-jerk reaction from the market.

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