My co-contributor to The Ticker District, Peter Bookvar, Chief Market Analyst for the Lindsay Group, had a thought provoking post yesterday on what he feels is the main cause of the recent bout of downward volatility in U.S. equites (read here). While the weak economic data in China, and the crash in their stock market are catching most of the headlines, Peter feels the recent selling in our markets of late has more to do with the Federal Reserve nearing an interest rate increase:
I believe the direct factor that is again bringing this all to the forefront is the possibility AGAIN of the Fed backing away from its unprecedented easy money policies. This is Groundhog Day AGAIN. The markets had its hissy fit after QE1 ended and the Fed panicked and gave us QE2 soon after. The market corrected sharply after its end and we got Operation Twist. The taper tantrum was due to the possible end of QE 3 and 4 and the Fed backed off. Last year’s 10 percent correction was just as QE 3 and 4 were ending and Bullard proposed halting the end of it which stopped the pullback. The Fed up until 2 weeks ago seemed on the cusp of FINALLY raising rates and the spoiled markets said again, please don’t! We then hear from the Fed’s Dudley that a rate hike is “less compelling.” Come on people, don’t we see a pattern here? Sure, blame China, commodities, etc.. but “Does it almost feel like you’ve been here before?”
It’s hard to ignore history. An unprecedented period of easy money is ending and that is one cause of the recent risk aversion. But shouldn’t equity investors welcome a sign of confidence in our economy by the Fed at this stage of our recovery? Do they really need to coax the Fed yet again?
As I write the S&P futures are down 2.6% after China released August manufacturing data that showed contraction at its fastest pace since mid 2012 and the first contraction in its PMI reading since February. Before closing down only 1.2%, the Shanghai composite was down more than 5%, while the Hang Seng closed down 2.2%, and Nikkei in Japan closed down 3.8%. It’s obvious that most of the selling of late has more to do with China’s weakness having a spillover globally than the Fed raising interest rates a measly 25 bps for the first time in nine years.
No matter what reason is most important, the confluence of events (that’s been clear for months) had me writing a fairly specific note of caution on August 18th; Warning Bells Scream in Silence, reinforcing my view that the volatility in almost every other risk asset the world over was headed for U.S. stocks. The most important takeaway:
It’s easy to dismiss all of these external factors when looking at our stock market, and it’s easy to join the NBD (no big deal) club when considering our multi-nationals’ exposure to emerging markets, but make no mistake, there are no shortage of external factors that are screaming warning-signs for our late stage bull market in stocks. Oh, and your favorite Fed Whisperer from the WSJ John Hilsenrath stated it loud and clear in this morning’s edition that the Fed may have exhausted its bag of tricks: U.S. Lacks Ammo for Next Economic Crisis
When a Fed-watcher with the access of Hilsenrath write about the Fed being almost out of bullets we should all pay attention. Because that means there are some within the Fed (that Hilsenrath speaks with) that feel that way. They worry about being able to combat the next crisis if they haven’t rolled back at least some of the last crisis’s saving mechanisms. Hilsenrath wrote that because someone he spoke to wanted him to write that.
The fear of a Fed rate increase, the fear of the Fed not fully grasping the potential for a global economic slowdown, the fear of the Fed not having the tools to combat a slowdown if it does occur all lead back to China. China and the U.S. make up 30% of global GDP. Throw the EU in there and you have about 50% of global GDP. A slowdown in China would cause a slowdown in the U.S. and in the EU, full stop. The global economy is interconnected. I am the farthest thing from an economist, but I suspect that China’s GDP (which has been almost cut in half from its highs in the prior decade) will not turn on a dime.
I suspect global stock markets continue to correct this month as the Fed could be damned if they do, damned if they don’t at their Sept 17th meeting. And investors will have to wait for a sign of economic stabilization in China, not just stock market stabilization.