What Does the Downward Slide in Global Markets Mean for Investors?
08/24/2015 | David Joy

The weakness in global equity markets washed ashore in the U.S. and in Japan last week. Already heightened concerns about the pace of economic activity in China were exacerbated by a report that showed manufacturing activity there had slowed more than expected. Both the U.S. and Japanese markets had mostly avoided the downturns that had been underway since April in both emerging markets and the Eurozone (which accelerated since the August 11 yuan devaluation). But that all changed over the last three trading sessions of last week when the S&P 500 fell 6.0 percent while breaking below its 200 day moving average, and the Nikkei lost 5.4 percent.

The pain continued to be felt in emerging markets, as the MSCI EM index dropped another 3.6 percent over the same three day period, leaving it lower on the year by 8.2 percent and bringing the decline from its April peak to 18 percent. And it continued to be felt in the Eurozone, where the Stoxx 50 index dropped 7.1 percent between last Wednesday and Friday, extending its decline since the devaluation to 11.6 percent.

The S&P 500 is now lower on the year by 4.3 percent and is 7.5 percent below its May peak. According to the Wall Street Journal, two-thirds of the index members are already in a correction and one-third are in a bear market. At the sector level selling occurred across the board, but with a wide dispersion. The biggest declines were in energy, which fell 8.3 percent, and in tech, which fell 6.8 percent. While no sector was spared, utilities fared relatively well, losing just 1.4 percent, followed by consumer staples, which lost 4.5 percent.

The Dow Jones Industrial Average has fared worse, now lower by 7.7 percent for the year and down 10.1 percent from its May peak, in correction mode by definition. The Nasdaq has also slipped into negative territory for the year, although just fractionally at -0.6 percent, and resides just outside official correction mode down 9.8 percent from its July peak.

The Nikkei is still firmly higher on the year, up 11.4 percent and resides just 6.9 percent below its June peak. However, in the Eurozone, although the Stoxx 50 index remains higher on the year by 3.2 percent, it is down more than 15 percent from its peak. For the German DAX it is a similar story, up 3.3 percent year-to-date, but down 18 percent from its April high.

Commodity Prices Continued to Slide While Safe-haven Assets Rallied

Commodity prices continued to take a pounding on growth concerns. Crude oil in the U.S. briefly fell below $40 a barrel to its lowest price since 2009. Copper continued its slide, leaving it down 4.0 percent since the devaluation and down 22 percent since May. The UBS Bloomberg Commodity index is now down 16 percent year-to-date.

Not all assets were suffering. While so-called risk assets were falling, safe-haven assets were rallying. Gold rose 4 percent last week to $1,160 an ounce, extending its two and a half week rally to 7 percent. Bonds also rallied on growth concerns and expectations that the Fed will now be less inclined to raise interest rates in September. Futures now place the odds of a September increase at one in three, down from one in two. The yield on the ten-year Treasury note fell to 2.04 percent from 2.20 the previous week. The yield on the two-year fell to 0.61 from 0.73 the prior week. The yen rallied against the dollar, as did the euro.

Determining where the selloff goes from here is clouded by the lack of economic visibility in China. Where the government wants the exchange value of the yuan to eventually settle is unclear. The true growth rate in the Chinese economy is also unclear, although it is surely less than the officially reported 7.0 percent. And how effective the already well underway policy response will be in arresting and reversing the slowdown, and how soon, is unclear. It is unlikely that commodity prices will experience much of a rebound until there is some evidence of policy success. The same holds true for China's major trading partners in both Asia and Europe.

What Does This Mean for the U.S. Economy?

In a relative sense, the U.S. economy is well positioned. Compared to consumer spending, exports are a much smaller percentage of economic activity. And trade with China is a subset of that. After years of deleveraging and robust job creation, U.S. consumers are in good financial shape. The recent decline in energy prices is once again showing up at the gasoline pump, leaving more discretionary dollars in consumers' pockets. To be sure, if the global economy slows, we will feel it, but less than many other major economies that are more highly leveraged to trade.

Being relatively insulated from a broader global slowdown in economic terms is less comforting, however, for investors, inasmuch as S&P 500 companies derive roughly a third of their revenues from overseas. And heightened market volatility and its accompanying headlines do have a chilling effect on consumer confidence. But that does not mean that what we are experiencing is anything more than a normal, and some would say long overdue, correction. According to the Stock Trader's Almanac, the average number of calendar days between corrections in the S&P 500 historically has been 514. So far, the current interval has been 1,419 days and counting.

And while market corrections may be difficult to stomach, they are a healthy component of efficient market price and value setting mechanisms. No one can say with certainty when and where this current selloff will run its course. But there is no reason to panic. A well-diversified portfolio continues to be both the best defense against market downturns and the best opportunity to achieve one's long-term financial goals.

In the U.S. week ahead, watch for confirmation of the economic firming trend in reports on new and pending home sales, personal income and spending, durable goods orders, the Q2 GDP revision and consumer sentiment. If the consensus is close to correct on each of them, it should help to calm the market jitters of the past few weeks.

Important Disclosures:
The S&P 500 is an index containing the stocks of 500 large-cap corporations, most of which are American. The index is the most notable of the many indices owned and maintained by Standard & Poor's, a division of McGraw-Hill.

The Dow Jones Industrial Average (DJIA) is an index containing stocks of 30 Large-Cap corporations in the United States. The index is owned and maintained by Dow Jones & Company.
The MSCI EMU Index consists of almost 299 stocks in 11 countries in the European Monetary Union and represents approximately 85% of the total market capitalization in those countries.

The Nikkei index is a price-weighted average of 225 stocks of the first section of the Tokyo Stock Exchange.

The DAX (Deutscher Aktienindex) is an index of the 30 most actively traded German blue chip stocks on the Frankfurt Stock Exchange.

The EURO STOXX 50 is a market capitalization-weighted stock index of 50 large, blue-chip European companies operating within eurozone nations. The universe for selection is found within the 18 Dow Jones EURO STOXX Supersector indexes, from which members are ranked by size and placed on a selection list.

The NASDAQ composite index measures all NASDAQ domestic and international based common type stocks listed on the Nasdaq Stock Market.

The UBS Bloomberg Constant Maturity Commodity Index (CMCI) is a diversified commodity index family made up of components from specific sectors including energy, industrial metals, precious metals, agriculture and livestock as well as individual components.

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Investment products are not federally or FDIC-insured, are not deposits or obligations of, or guaranteed by any financial institution and involve investment risks including possible loss of principal and fluctuation in value.

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