Heightened concerns over the growth outlook for China proved to be the trigger for a collapse in international share markets during the September quarter. Financial markets were trading at stretched valuations, following years of near zero interest rates and quantitative easing, making the corrections sharper than they may otherwise have been. The magnitude of share price changes — as measured by the CBOE Volatility Index (vix index), which is also commonly called the ‘fear index’ — spiked to the highest level since 2011. Until then, share market volatility had been at low levels since the global financial crisis, so we expect an increase to more normal levels over the medium term. We anticipate that market gyrations may continue in the short term, however, for long-term investors this weakness presents attractive investment opportunities.
During August, the People’s Bank of China (PBOC) surprised international markets with three consecutive devaluations of their currency, pushing the yuan down more than three per cent against the US dollar. The devaluation came just days after the release of data showing a sharp decline in exports from China of 8.3 per cent year-on-year to July 2015. Many viewed the devaluation as the Chinese government’s attempt to reignite a sputtering economy.
A weaker yuan will help to stimulate growth by making Chinese exports more price competitive in international markets. Data released in August showed that the Chinese manufacturing sector had slowed to the lowest level since March 2009. Worries over slowing Chinese demand flowed through to the commodity markets sending the price of oil and other commodities tumbling to multi-year lows.
Beijing has the economic tools to implement significant stimulus measures to stabilise the economy and cushion a hard landing. The recent policy measures implemented by the government during both the global financial crisis and the recent share market sell-off demonstrate that they are not afraid to use these tools. Options for the government include more interest rate cuts, further lowering of the PBOC’s reserve ratio requirements and targeted spending initiatives. This desire to stabilise the economy must be considered in light of the government’s commitment to market-oriented reforms which include further liberalisation of capital markets, efficiency improvements for State Owned Enterprises, of which there are many in China, and increased direct foreign investment.
The United States (US) economic recovery remains intact, underpinned by strong employment growth, and accelerated economic activity following a sluggish start to 2015.
The US Federal Reserve (Fed) kept interest rates unchanged at their September meeting. Concern over the international economy, financial market volatility and sluggish domestic inflation were cited as the reasons behind the decision. The Fed Chairwoman, Janet Yellen, maintained a bias towards a rate hike sometime later this year but she also lowered the Fed’s long-term outlook for the US economy.