Investment View Q1 2016
A challenging start. Only three weeks into the year and 2016 is already shaping up to be a chaotic year in global economics and geopolitics.
Global stock markets dropped by 8-12% in the first ten trading sessions and most of them are now 20% below their highs. Considering the speed and magnitude, the sell-off looks like panic selling. Forced selling by Middle East countries?
Among the primary causes of the sell-off are worries about China’s economic health and continued devaluation of the Chinese yuan, despite the recently published 6.9% GDP growth. Investors fear that the real numbers are worse and see the sharp fall in commodity prices, particularly oil, as evidence for further weak demand.
The low price of oil does not have the same economic benefits as it used to. Global capital expenditures have been hit by the low oil price which may not be compensated by the long-held assumption about the economic benefits of low energy prices. Consumers have high debt levels that need to be redeemed and governments tend to neutralize advantages by raising taxes (for example at the pump).
We know that 2016 global growth has been cut by the IMF from 3.6% to 3.4% and World trade has been sluggish. But we do not share recession fears provoked by China or economic storms in commodity producing nations.
There are plenty of old and new worries. Financial and credit risks are generally rising, caused by the spectacular plunge in oil and other commodity prices.
Companies face earnings pressures as sales growth is lagging. A higher cost of capital with lower earnings is a toxic combination leading to higher risk premiums demanded by equity investors.
We believe many of the worries could be overcome during the first 6 months of 2016. This will have accomplished a “reset” of valuations, the monetary system and economic growth. From there on, expected returns should become attractive again.