Are Global Markets Stabilising?

The two most important equity markets right now are the US and Chinese ones. We look to both as a barometer of investment propensity. So it makes sense that if both are picking up, then equities, globally, must be stabilising.

Economic health plays a huge part in driving investment. Just to be clear, we are talking about economic health, not the volatility of the market.  If US or Chinese economic figures are showing signs of slowing down, investment might also decline. It all comes down to risk against return.

If things get risky then investors tend to pull their money out and run for cover. A common place investors might look to is bonds, gold or shares, which are historically less volatile. Yet instead of running for safe haven, investors are turning 180 degrees.

Many investors are starting to sell the very assets they were originally buying. They’ve turned into speculators instead of investors. Many investors are looking to get rid stocks, which are being aggressively sold down by big institutional traders.

Even governments were in on it. The Chinese government sold off US assets in order to buy the yuan. The aim was to appreciate the yuan by oversupplying the USD and increasing demand for the yuan.

Saudi Arabia and Norway were among the major oil exporters who also participated in the selloffs. However, it was not US asset that they sold; instead sovereign funds sold off European bank stocks to the tune of millions. Some euro banks dropped as much as 26% over night. Oil nations were trying to plug holes caused by declining oil prices.

However, nothing lasts forever. Asian markets, as a whole, are expected to consolidate their gains. The yuan is showing signs of stability, which should ensure a reduction in China’s selling. Of course China won’t halt immediately, but it might be a sign of good things to come.

Japan is extremely happy about prospect of China allowing their currency to slide. The Japanese yen is just one currency that has been negatively affected by China’s currency policy. A depreciated yen puts a strain on Japan’s imports, making it more expensive to buy goods. But there’s a deeper fear hidden in Japan’s motives.

In 1997, Asia experienced an asset bubble blow up. It started in Thailand with more and more foreign investors taking their capital out of the country. Capital outflows caused the Thailand baht to collapse. And because the currency was effectively worth nothing, Thailand was unable to pay back their debts. Essentially the country was bankrupt.

The crisis spread throughout most of Southeast Asia, but also managed to reach Japan. The crisis affected Japan’s currency, stock market and other assets prices. The strain pushed Japan’s private debt to dangerous levels. The side effects have still not fully worn off, and Japan is steadfast on not letting a similar event transpire.

Oil prices also seem to be stabilising. But when I say stabilising, I mean prices are unlikely to drop to lows of US$26 per barrel. It’s of course early days to predict something like this, but oil could be steadily on the rise. Crude oil has climbed more than 10% over the past seven days. It doesn’t mean we are out of the woods yet. But it could encourage oil producing nations to restrict supply.

There have been talks between Russia and Saudi Arabia about such a reduction. Russia has publicly told the Saudi’s to be more involved when it comes to restricting oil supplies. However, the Saudi’s don’t want to be standing out in the cold all by themselves. Their position on the matter is for Russia to also participate.

But why would we want oil prices to rise? When oil is low it really puts a strain on oil and energy producing companies in Australia. This hurts Australian banks too. Many oil companies have borrowed billions from banks, and if their repayments fall through, well, it’s too bad for the banks.

Banks not only lend to oil companies, but they’re also invested in them. Most banks have investment or equity trading divisions. If a lot of these investments fall through then how will banks recoup the difference? One way banks could recoup losses is to marginally raise their interest rates on things like mortgages or personal loans. If this happens now, it’ll affect borrowers. After all, it’d become more expensive to borrow and buy homes.

These events haven’t happened yet, and the flow on effect is just speculation for now. Banks may cut costs in other ways, rather than raising their interest charges. But it is easy to see that the fall in oil could cause a flow on effect, causing damage to the whole economy instead of just oil producing companies.

Another good sign for the economy’s recent stabilisation is US economic data. Last week the employment, retail sales and import prices all strengthened. JOLTS (Job Openings and Labour Turnover) increased by 0.26 million. And more job openings means more opportunities to lower unemployment, which is exactly what happened.

US unemployment claims reduced by 16,000, showing good signs for a short term increase in US spending. Core retail remained the same, but actual figures bettered predictions. Beating predicted figures is almost as good as an actual increase. Why? The market is supposed to be rational; however, humans are irrational.

Sometimes, a positive attitude or outlook is all it takes to encourage people to spend or push up share prices. That’s why the field of behavioural economics exists today. Many of us, even though we don’t admit it, are dictated by our emotions. So maybe all we need, to do to get out of this economic funk, is to look at the positives. I know that this may be an unlikely solution.

But if there are signs of general economic improvement, then more investors might start to buy.

Härje Ronngard,

Junior Analyst, Money Morning

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