Global equity market volatility – August 2015
Demonstrating recent market volatility has been US stocks which joined selloffs in Europe and Asia, and the Standard & Poor’s 500 Index tumbling toward its first major correction in almost four years. Chinese shares sank the most since 2007 and stocks in Germany headed for a bear market. In August, commodities fell to a 16-year low as crude plunged 4.1 per cent. The yen has strengthened and 10-year Treasury yields slid below 2 per cent for the first time since April.
Equity markets have essentially given up all of their gains made over the past year. Australian and emerging markets have underperformed global developed markets and interestingly, the AUD has not fallen in lock-step with equity markets over the past month.
What has happened, and why?
There are many contributing factors to the current falls being seen. All of which is explainable.
August has been a very tough month for Australian and global investors.On 25 August, the Australian sharemarket was down over 10% for the month. It is extremely difficult to forecast where the market will go on a day to day basis as it is influenced by many factors – but what we do know is that panicked selling by others often creates opportunities for stock buyers who have a longer term focus, such as super funds.
Investors have become increasingly worried about the slowdown in the Chinese economy, with concern that the devaluation of the renminbi could be a sign of a more serious economic crunch rather than a product of the Chinese authorities seeking a more ‘fair value’ exchange rate (due to the sharp rise of the renminbi against most other currencies over recent times with the currency’s links to the USD). This weakness in the Chinese economy has undermined commodity prices including iron ore, copper and oil. The Chinese financial system has also been very volatile, with significant falls in the Chinese stock market after a steep rise in the previous 12 months fuelled by a retail stock buying frenzy. The Chinese Government has been trying to bolster its market without success.
Concerns regarding the outlook for some of the other main emerging markets has also been a major contributor to the recent market volatility. Falls in the prices of a number of key commodities, capital outflows triggering sharp falls in currencies and concerns regarding a possible commencement of a US interest rate tightening cycle in the short term have all weighed on the minds of investors.
AvSuper’s view on implications and strategy
The key question for investors is whether the recent volatility is a short-term phenomenon in response to greater uncertainty or is indicative of more fundamental issues. On this question we make the following points:
- While data varies from month to month and quarter to quarter, growth in the main developed economies – the US, UK, Eurozone and Japan – continues to stabilise and is generally improving, albeit it remains below longer term trend levels. However, developed country growth remains fragile and a ‘hard landing’ in China and recession in other key emerging market countries would likely have a significant effect.
- The dramatic fall in the price of oil over the past year, combined with the substantial quantitative easing programs of the European Central Bank and the Bank of Japan, will support global growth. However, much of the fall in oil prices has been a result of strategic supply decisions made by OPEC, which could be reversed, and therefore the current price may not necessarily be sustainable for a long period.
- Any rise in interest rates is likely to be modest in the foreseeable future, as flagged by the US Federal Reserve, given the continued lack of inflationary pressures. Indeed, falling commodity prices and high levels of excess capacity in a number of industries means that deflationary pressures remain at the forefront for central banks.
- There is no doubt that China’s rate of growth is slowing, a trend which has been apparent for a number of years. This is a function of its growing wealth and the desire to transition from a manufacturing and export-driven growth model to a greater share of consumption-driven output in its growth mix. The major question at present is whether excessive investment in sectors such as property and the build-up of debt in the corporate sector over the period since the GFC means that a ‘hard landing’ may be in store.
- The position of a number of other major emerging markets remains challenging given the factors outlined above. While AvSuper maintains the view that these countries should be a source of growth over the long term, continued volatility over the short to medium term is likely. However, we note the substantial underperformance of emerging markets relative to developed markets over recent years which may indicate that many of the potential risks have already been priced into valuations.
What this means for your super:
- Since the GFC, AvSuper has enjoyed a strong rally in equity markets and all other ‘risk’ assets, including credit, property and infrastructure. This rally has been punctuated by periods of extreme volatility. This could be another of those periods, or it could be the beginning of a major correction, particularly if there was to be a significant deterioration in the outlook for China and other major emerging markets.
- AvSuper is positioned relatively conservatively – underweight equities (with a bias to “quality” in Overseas Equities); overweight unlisted assets (a bias to Growth Alternatives at the expense of Australian Equities); overweight defensive and liquid alternatives (expressed through Defensive Alternatives and Cash); overweight to foreign currency (AvSuper recently reset its currency hedging back to “neutral” levels) – and maintains adequate cash balances. While this positioning is unlikely be enough to prevent negative returns in the current market conditions, it should be providing a level of protection.
- We believe that over the long term, investment in emerging markets will provide access to sources of higher growth arising from industrialisation and increasing wealth of consumers in these countries.
- However, we caution that poor performance and volatility could continue for some time, and stress that investing in emerging markets, as always, remains a strategy only for investors willing and able to take a long term perspective.
In summary, AvSuper believes it is a time to be cautious, and we continue to review the risks within our portfolios, especially any concentrated and unintended risks, and ensure there is sufficient liquidity sources, to be able to take either defensive or offensive positions in coming weeks and months. We shall continue to monitor economic and market developments closely, and provide additional updates if the market correction continues or our views change.
* This report has been prepared with the assistance of our investment adviser, JANA.
Email: firstname.lastname@example.org | Freecall: 1800 805 088 | Phone: 02 6268 5073 | www.avsuper.com.au
This information is of a general nature only and does not take into account your personal objectives, situation or needs. Before making a decision about AvSuper, you should consider your own requirements and the relevant Product Disclosure Statement (PDS). For a copy call us or visit the AvSuper website, www.avsuper.com.au. AvSuper Pty Ltd (ABN 46 050 431 797, AFSL 239078) is the Trustee of the AvSuper Fund (ABN 84 421 446 069). FS6130.1 08.2015