by A selloff as violent as the one global equities markets experienced this past Monday can have effects that mirror a real-life earthquake. Once the earth stops moving, shell-shocked investors have to figure out what caused all the shaking and whether aftershocks are coming. They also have to determine whether anything valuable is hiding in the debris. To the first point, it’s quite clear that trouble in China was the catalyst for the rout. It all started on Friday, August 21, when China announced the lowest manufacturing activity levels since 2009. When the trading day started in the U.S., volatility in the equities markets soared, with the Chicago Board of Exchange’s Volatility Index (VIX) climbing well above 20, a key psychological threshold. On Monday, it was China’s turn again, and the Chinese stock market plummeted 8.5 percent, remarkable even for a market that has been in free-fall since June. The decline came after numerous government interventions, including several currency devaluations. And then it was everywhere: The Dow Jones Industrial Average dropped 1,000 points shortly after opening and ended the day down 588 points, or 3.6 percent, while the Nikkei 225 and Germany’s DAX declined 4.6 percent and 4.7 percent, respectively.
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Ashley Kindergan considers the following as important: Barbara Reinhard, China, Credit Suisse, equities, high-yield bonds, Investing, Investing: Features, Markets, MLPs, risk appetite, Volatility
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A selloff as violent as the one global equities markets experienced this past Monday can have effects that mirror a real-life earthquake. Once the earth stops moving, shell-shocked investors have to figure out what caused all the shaking and whether aftershocks are coming. They also have to determine whether anything valuable is hiding in the debris.
To the first point, it’s quite clear that trouble in China was the catalyst for the rout. It all started on Friday, August 21, when China announced the lowest manufacturing activity levels since 2009. When the trading day started in the U.S., volatility in the equities markets soared, with the Chicago Board of Exchange’s Volatility Index (VIX) climbing well above 20, a key psychological threshold. On Monday, it was China’s turn again, and the Chinese stock market plummeted 8.5 percent, remarkable even for a market that has been in free-fall since June. The decline came after numerous government interventions, including several currency devaluations. And then it was everywhere: The Dow Jones Industrial Average dropped 1,000 points shortly after opening and ended the day down 588 points, or 3.6 percent, while the Nikkei 225 and Germany’s DAX declined 4.6 percent and 4.7 percent, respectively.
Barbara Reinhard, chief investment officer for Credit Suisse Private Banking Americas, says several factors exacerbated the resulting turbulence in the U.S. market. First, the S&P 500 was long overdue for both a pullback – the last 10 percent correction was in 2011 – and a bout of volatility. Since 2008, the VIX has experienced three spikes of at least one standard deviation each year. Before this week, it hadn’t registered a single one in 2015. Finally, markets have been on edge about the Federal Reserve’s increasingly vocal desire to raise interest rates before year-end.
Given the thin trading going into the U.S. Labor Day holiday, Reinhard believes markets will see more big swings. “We do think there is likely a little bit more to go in this corrective phase, and we are keeping our powder dry,” she said on a recent call with investors.
The selloff has already created several compelling possibilities for deploying said powder. The first is in U.S. high-yield bonds, where yields touched two-year highs on August 26. As investors have grown increasingly nervous about risky assets over the past week, spreads between high-yield bonds and U.S. Treasuries have widened, making them relatively attractive. With few sovereign bonds paying more than 2 percent – bonds in Australia, Portugal, South Korea, and the U.S. are among the relatively high-yielders – Reinhard expects the hunt for yield to resume, nudging investors toward high-yield bonds.
Master limited partnerships, publicly traded energy investment vehicles that contain both debt and equity, also look promising. Falling oil prices have been tough on MLPs this year, and the Alerian MLP index, which tracks the sector, is down 32 percent from an August 2014 peak. That decline makes the partnerships both cheap and a good source of income, paying dividends of between 6 and 7 percent. If oil prices stabilize, as the Private Banking & Wealth Management division expects they will, MLPs could get a major boost.
It’s a little more difficult to find compelling equity plays. Credit Suisse’s investment committee reiterated its neutral view on stocks earlier this week, saying that while the selloff certainly brought valuations lower in developed markets including Europe, Japan, the U.K., and the U.S., stocks still not cheap by historical measures. The S&P 500, for example, is trading at 16.5x earnings, compared to its long-term average of 15.5x. Within developed markets, Credit Suisse prefers European equities, with the ECB still easing and the consumer-led recovery still intact. Credit Suisse has a negative view on emerging market equities, given serious headwinds from China’s slowdown and the imminent (if possibly delayed) increase in U.S. rates.
For investors with U.S. equity exposure, the Private Banking & Wealth Management Division suggests focusing on select large caps, companies that are buying back shares, or potential M&A targets. As for a more broad-based recovery, Reinhard advises keeping a close eye on sentiment. The Credit Suisse Global Risk Appetite indicator has not quite reached panic mode, which is a reliable signal of a trough.
Looking at the bigger picture, Credit Suisse’s Private Banking & Wealth Management Division doesn’t see the recent market turmoil derailing the positive growth story in many developed economies. U.S. unemployment is holding steady at 5.3 percent, and the housing market registered its strongest new home sales since 2007 in July. The U.K. has experienced strong growth in both jobs and wages. As for China, where the trouble started, the People’s Bank of China cut its benchmark lending rate by 0.25 percent on August 25, and officials will likely add to fiscal and monetary stimulus in the coming weeks. The market’s earthquake was scary, but it’s not the beginning of the end for the global recovery.