2015 was to be the year of European Equities. After five years of trailing the U.S. market, all eyes turned to Europe, as the power of Quantitative Easing (QE) and an expectation of greater growth (in terms of both GDP and corporate earnings) saw investors almost unanimously bullish on the asset class. Fast forward nine months and the asset class has given back all the gains from Q1. So, what now?
Reputed to be an ancient Chinese curse, “interesting” in the above phrase was meant to signify dangerous or turbulent times. Fingers were pointing at China last week as being responsible for market volatility due to the significant fall in the Chinese equity market and surprise devaluation of the Renminbi. We’ll leave comment on the equity market to our Emerging Market colleagues, but we will make two points on the currency. Firstly, we’ve seen a 3% devaluation so far, and 1-year forward rates are suggesting another 5% within 12 months. But the market is likely to press for a more significant devaluation than 5%, so the reaction of the Chinese authorities will be interesting. Secondly, we understand that the Chinese authorities have been intervening to stabilise the currency to the tune of about US$10bn a day. That intervention is financed by liquidating FX reserves, most of which are invested in bonds. Should intervention continue, we may see the People’s Bank of China becoming a forced seller of bonds, putting upward pressure on G-7 investment grade bond yields. Asian central banks have long been fans of French government bonds, seeing them as a higher-yielding proxy for German Bunds. It will be interesting to watch the spread between French and German government bonds in coming weeks.
On August 11, the Chinese government devalued the renminbi (RMB) for the first time in 22 years. Resulting global market volatility has been significant – but what implications might this turmoil have for the U.S. equity market?
Our research indicates that historically, there has been no correlation between the Chinese equity market and the U.S. equity market. In looking at 11 Shanghai bull and bear markets from 1993 to 2014, our analysis reveals that in bear markets the Shanghai stock exchange sold off 19.1% on average, but the S&P 500 Index actually gained 3.5%.
The recent weakness of Chinese equity markets is spreading into risk assets around the world. Developed Markets, initially resilient to Renmbimbi devaluation, are now pricing in the deflationary effects of China’s slowdown on Emerging Markets, already fragile, and more broadly, on the global economy. Continue reading →
The views expressed here regarding market and economic trends are those of Investment Professionals, and are subject to change at any time. These views should not be relied upon as investment advice, as securities recommendations, or as an indication of trading intent on behalf of Pioneer. There is no guarantee that these trends will continue.
This material is not intended to replace the advice of a qualified attorney, tax advisor, investment professional or insurance agent. Before making any financial commitment regarding any issue discussed here, consult with the appropriate professional advisor.