This week has been mayhem for investors.
1) Why are stock markets around the world falling?
If Monday was about selling, Tuesday is about bouncing back. In Asia, China did fall -7.5% overnight and its market has wiped out annual gains. Japan’s NIKKEI fell also on Tuesday; but some Asian stock markets were able to separate themselves from their larger neighbours and trading partners and move higher—Hong Kong and Singapore are two examples. All major indicies in Europe closed higher on Tuesday and the US is seeing solid gains. Concern about slowing growth in China is the main reason why US markets lost -10% in 5 days.
2) How is it different than Black Monday in 1987?
From a big picture point of view, there’s actually very little that is different between Monday’s losses and Black Monday in 1987. Black Monday 1987 was in the middle of a bull market. Numerous strategists think that is the exact same thing about this week’s selling. As BMO Capital’s Brian Belski wrote to clients on Monday, “Corrections are normal and needed — and the current price weakness is serving an overdone purpose”. Belski’s point is one of value; he alludes to stocks trading higher on *the idea* of future earnings— higher earnings than it may be realistic to calculate from this point. Goldman Sachs also published a note about the 1998 currency crisis in Asia and how that resulted in jitters in the US. At that time, the SNP500 plunged by 14% in August 1998—and then rallied close to 30% in the last 4 months of the year. As a contextual point, the SNP500 has been moving higher these past 6 years; five days of selling can’t be that shocking.
3) Who’s getting hit the hardest here?
On Monday and the prior 4 days of selling, every single sector was hurt. Two groups stood out: tech and energy. Tech stocks such as Apple, Netflix and Facebook all sold off along with the rest of the market. A lot of investors were surprised that these companies, which show growth potential, were sold off along with other sectors where the growth potential is less clear. Numerous investors that I know actually used Friday and Monday to buy (at a discount) the stock of companies they want to own. Energy also got hit very hard. Oil prices are the lowest they have been in 6.5 years. Lower commodity prices are hurting trade for all oil and energy related stocks. One reason oil prices are moving lower is that some form of oil powers most of the engines of the world. If there is less demand from the $17 Trillion Chinese economy for energy because there is less building, less manufacturing, the price of the commodity will move lower. In a dynamic market, less demand for anything equals lower prices.
4) Why is Chinese growth slowing?
There are lots of reasons why China’s growth is slowing. One reason is that China wants a more diverse economy; it is steering itself towards being a services-based economy AND a manufacturing one. For purposes of understanding the global stock market sell-off, the catalyst was a series of data points from China that show it is slowing. Chinese export data were much weaker than anyone thought, the government devalued the yuan, its currency, and also posted negative manufacturing data. All those signs pointed to a slowing China—and that spooked investors in every part of the world. China is a $17 TRILLION dollar economy. The only other country with such a big footprint in the world economy is the US. Just by sheer size, investors cannot ignore China’s economic health, to the same extent that no one in the world can ignore the US’ economic health.
5) What does this mean for pensions?
Pensions will be affected. Pension funds have exposure to the US stock market. Most pension funds also have some riskier debt. For example, Mongolia, a neighbour to China, issued $500 Million worth of Mongolian debt that a US pension management firm bought. At the time, the premise was that Mongolia would sell commodities to an ever-growing China. With China slowing, the premise doesn’t hold up so well. (If you manage your own 401K via fund choices, make sure you know what is in each of the funds you are choosing. If retirement is imminent, move some of your money into more conservative positons).
6) So…what’s next?
After a 6-year run up on the SnP500, there will be more volatility. For that reason, some investors limit their losses by buying Volatility Protection (VIX). In the stock market, there are more, bigger, faster players (high frequency trading programs with pre-set orders on buying and selling strike prices). In my opinion, it’s the time to do research on companies you think have great growth prospects and invest in those specific companies. Know what you buy. “Buying the Market” with SnP500 Index Futures or any other index that mimics a large, general basket of stocks is probably not the right call if volatility is here to stay.
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