CHINA’S BLACK MONDAY: LESSONS FOR INVESTORS
GRAPH 1: MONTHLY MOVEMENTS IN THE S&P 500 INDEX FROM FEBRUARY 2009
Stock markets all over the world followed China’s lead on 24 August, plunging into the red and wiping hundreds of billions of dollars off of share values. But, while it’s tempting to lay the blame entirely at China’s door, a look at the global economy and markets shows Western markets have been overvalued and were due a correction.
Equities are risky assets and do not go up forever in straight lines, so corrections can be fast and furious at times. This acts as a useful reminder to investors that stocks are risky assets.
Stock markets in recent years have benefitted from market-friendly monetary policies. There have been three rounds of quantitative easing from the Federal Reserve, the Bank of Japan and more recently the European Central Bank. For some time there have been concerns about the outrageous valuation of shares of certain US companies, i ncluding Facebook, Twitter, Tesla, GoPro, Netflix and Amazon. Both short-term and longterm interest rates globally have been artificially low for record periods. This unusual era of money printing and low interest rates has boosted asset prices – not just stocks, but also property prices in major towns and cities around the globe.
More interestingly, until this correction, the current bull market has been extremely unusual in that it has been one of the longest ever periods recorded (48 months) without a 10% correction in the S&P 500 index. The blue candles in graph 1 show the index being up for the month; red candles represent it down for the month. The previous longest periods were October 1990 – October 1997 (84 months) and March 2003 – October 2007 (54 months). The large red candle at the end represents the most recent drop.
Another sign that US stocks had