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The Bear Market Is Almost Here

250px-Bulle_und_Bär_FrankfurtThe bear began to circle global markets last Tuesday, which proved to be the beginning of a major downturn. By the end of the trading week stocks and equities would be officially in correction territory, having lost 10.1% valuation since last May. In the United States the DJIA (Dow Jones Industrial Average) alone lost 5.8% in four days.

Markets abroad were no better, with both Asia and Europe reporting big declines. Investors were optimistic that the new week would bring recovery. Their hopes would be dashed Monday, with near panic selling in the Chinese Stock Market. By the end of the day, the Shanghai Composite Index dropped an additional 8.5%.

Shanghai Stock Exchange

Shanghai Stock Exchange

The correction was inevitable with slowing growth in the developed world and the advent of recession like conditions in major emerging markets. Economic fundamentals simply did not support the previous stock valuations that existed in the major exchanges around the globe. The easy money policies with rounds of quantitative easing and near zero interest rates have increasingly limited the options for investors.

An increasing amount of wealth was being concentrated in the stock market. More traditional avenues for investment had become unpalatable with returns becoming almost non existent.

Traditional savers were being punished, as central banks were causing interest rates to plummet almost everywhere. The purchase of stocks was one of the few remaining vehicles left, that would permit a decent rate of return for investors.

Colombian Stock Exchange

Colombian Stock Exchange

The collapse in commodity prices as a result of slackening demand in the slowing economies of the world, has put an end to growth in many emerging markets. Latin America is being particularly hit with this new reality. Currency valuations there have declined by 20% since the middle of 2014.

Commodities had increased in price by nearly 300% during the years from 2003 to 2011 bringing a near boom, in economic growth across the region. Expansion for Latin America had slowed to just 1.3% last year. In 2015, the forecast for the economic growth is now less than 1%.

In the United States it was expected that the beginning of a new week would bring a major rebound in the stock market. Instead what is now being called Black Monday resulted. The futures before the market opened indicated another drop of 5%, with a possible loss of an additional 800 points. The market then dropped 1089 points, registering a plunge of more than 6% in early trading.

DJIA (July 19, 1987, to January 19, 1988).

DJIA (July 19, 1987, to January 19, 1988).

The feared 7% drop that would bring an automatic suspension in trading did not occur, but it came close to that level. It ended up being the biggest one day loss, in the history of the American Stock Market. The trading day ended with a loss of 588 points or a drop of an additional 3.58%. It was the biggest daily decline since August 2011.

The DJIA was now down 10.95% for the year. Of the 30 stocks in the composite, 40% of them were now in what is considered Bear Territory. This is defined by a drop of 20% in valuation in the market.

The NASDAQ, the second largest stock exchange in the world after the New York Stock Exchange (DJIA) also had the biggest dip since 2011. The index went down by 11.74% in a week and 4.43% for the year. The S&P Composite had a corresponding drop of 10.01% for the previous five days and a loss of 8.05% for the year.

The NYSE trading floor in the United States

The NYSE trading floor in the United States

The American market opened on Tuesday with anticipation of a major bounce in stocks. The futures indicated a gain of 619 points or 3.94%. Earlier in the day the Chinese markets took another hit. The Shanghai Composite plunged another 7.6% and the Shenzhen Index fell 7.2%.

In response, the government of China initiated another interest rate cut of 0.25%. It was the fifth reduction since last November, leaving the new rate at 4.6%. Considering that most of the rest of the world is at or near zero,China still has a way to go in cutting interest rates.

Tuesday was going well enough until the last hour of trading, then the market plunged 500 points or a total of 3.10% in that period of time. Instead of a rebound, the market ended up closing a couple of hundred points lower than the day before. Nearly $2,000,000,000,000 USD (United States Dollar) of wealth had now been wiped out in the United States alone.

Wednesday arrived on news that the Federal Reserve was most likely to postpone a hike in interest rates, the market responded with a rebound that was the largest in seven years and the third biggest in United States history. At over 619 points the equivalent of a 3.95% gain, market observers may now feel that the danger is past. The volatility over the past week, is an indication that they are wrong. This is true not only in the United States, but around the world.

1 Chinese  RMB to US dollar, since 1981

1 Chinese RMB to US dollar, since 1981

China had already taken losses that exceeded 2.4 trillion USD at the beginning of last month. Despite the intervention of the Chinese government, the decline had already exceeded 30% since the market peak in early June. The losses are now approaching 50% and the government of China is getting desperate, to save the market from a wholesale collapse.

It is a reflection of the overall economy of China. Growth already growing at the slowest pace in 25 years at 7% according to Chinese authorities, is quite likely growing at a much more reduced rate. The regime there could possibly be facing a recession in the near term.

China is responsible for 15% of global output and if the economy dips into towards negative growth, the world demand for commodities will drop even further. This will have repercussions across numerous markets in the emerging nations. Many raw materials like metals and energy have already reached six year lows. This is having a dampening effect on the exchanges globally, as investors abandon the companies involved in resource extraction and processing.

Business cycle with it specific forces in four stages according to Malcolm C. Rorty, 1922

Business cycle with it specific forces in four stages according to Malcolm C. Rorty, 1922

China is an example of the limited effect government intervention can have on a market in trouble. The Chinese regulators have directed the massive infusion of more money into the exchanges, hoping for a turnaround. Stimulus spending on this and the economy in general, has massively increased the total debt in relation to GDP (Gross Domestic Product). It has gone from 150% in relation to GDP in 2008 to 250% this year.

The stock markets in China, Europe, Japan, Latin America, Southeast Asia, the United States and elsewhere is merely a reflection of the general world economy. The projected global growth of 3.5% for 2015, has already been revised downward to 2.8%.

There are fears that another downgrade will arrive later this year, as an accelerating number of major world economies run the risk of negative growth. Corporate profits will come under increasing pressure in such a troubled environment. Investors need to adjust to the reality of much lower returns as demand slackens even further, in the face of strengthening negative economic headwinds.

The Japanese Nikkei 225

The Japanese Nikkei 225

Japan is a perfect example how limited the effect can be, despite a continuous massive government intervention in trying to increase domestic consumption. For two decades despite massive spending and an economy flush with cash, the stagnation remains in place. The Japanese have ended up with the highest rate of debt in relation to GDP at 240% and still rising rapidly as a result of these efforts.

Europe is also contending with years of low growth and massive debt that currency manipulation, near zero interest rates and quantitative easing alone will not change.

220px-Wall_Street_bubbles_-_Always_the_same_-_Keppler_1901 (1)Regardless of the amount of stimulus spending, lower interest rates and efforts involving quantitative easing world economic growth is cooling. The drive to remain competitive in trade through successive rounds of currency devaluations, threatens to erupt into an all out currency war.

Most countries wish to stimulate growth through increased exports, yet the world is awash in a surplus of goods and services. There is little demand for more, so competition will increase for the markets that do exist.

This is all going to lead to a major correction in the biggest exchanges of the world, that will finally convince many investors to abandon the stock market. That will in turn, usher in the bear market that will most likely arrive later this year. Following that will be a recession, which will soon engulf most of the major economies of the world in 2016.


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