Investors should prepare now for trio of ‘ C’ risks
Like the weather, volatile equity markets can suddenly and unexpectedly wreak havoc on your finances if an insurance or risk- management strategy isn’t in place. The good news is that there seems to be a bit of time to prepare for a few sizable storms on the horizon that global equity markets have for the most part been ignoring, judging by their performance so far in 2015.
In particular, the MSCI World Index has fallen 4.8 per cent from its summer highs, but is still up 2.5 per cent this year, while the S& P 500 is down 1.5 per cent from its highs this year, but up 2.8 per cent overall, and the S& P/ TSX composite is down 6.5 per cent from its earlier highs, and is down only 1.0 per cent in 2015.
But there are three main risks that could present clear and present dangers to the broader equity market, and investors should be asking how well they are prepared for them.
China. Things are not well in the world’s second- largest economy, but don’t kid yourself into thinking that it won’t have a global reach.
China’s exports are faltering, contracting more than eight per cent last month alone on a year- over- year basis, and its fixed- asset investment growth has fallen to its slowest pace in the past 15 years, due in part to an overbuilt property market.
More troubling is that the slump is starting to show up in Chinese labour demand, which fell last month for the first time since 2012, according to FT Confidential survey data and reported in the Financial Times.
Not surprisingly, investors have reacted by hitting the sell button, wiping out an estimated US$ 3.5 trillion in financial asset value from China’s equity markets last month. Fortunately, the Chinese government has placed restrictions on short- selling to staunch the bleeding.
Hopefully, that will be enough, but there are no guarantees.
Currencies. Although many political pundits may deny it, there is a global currency war underway as central banks look to stimulate slowing exports.
The Bank of Canada has lowered its overnight benchmark rate twice this year, the European Union commenced quantitative easing this spring, the Bank of Japan’s money printing is in overdrive and China recently added icing to the cake by cutting its daily reference rate.
The problem is that the U. S. dollar has been rocketing on expectations of a U. S. Federal Reserve rate hike this fall, while most other countries have been reducing rates, and that is already starting to have an impact on the U. S. economy.
According to Pension Partners LLC, S& P 500 revenues this past quarter fell 3.6 per cent from last year, with the last two declines being in 2008 and 2001. Nominal GDP growth has also fallen to its slowest pace on record during an economic expansion.
The expectation is that the U. S. Federal Reserve will introduce a 25- basis- point rate hike at its upcoming meeting in September. How the Fed actually reacts is rather important for market participants, especially those playing commodity markets that have been decimated.
Commodities. Investors will often purchase commodities as an inflation hedge, given that hard assets often rise along with inflation. But global consumer inflation is not far off zero, which has affected demand for most commodities in both the developed and emerging markets.
As a result, commodities prices have fallen to 11- year lows as investors worry about the risks of global deflation. Considering the potential magnitude of these three risks, now is not the time for investors to be complacent.
There are some great ways to protect yourself, particularly through the use of various options strategies, but also keep in mind that the three ‘ C’ risks may represent some excellent opportunities for the contrarians in the crowd.
There are three main risks that could present clear and present dangers to the broader equity market, and investors should be asking how well they are prepared for them.