NEWSFeb 10, 2018

A Plunge In The Stock Market May Lower The Global Economy

The crash and serious uncertainty in the stock markets have a high likelihood of burdening on the global economic recovery.
The U.S. stock market suffered its biggest percentage fall since August 2011 (the U.S. lost its AAA credit rating), erasing gains for the whole year. The Dow Jones Industrial Average slid around 4.6% while the S&P 500 index declined 4.1%. The tumble in the U.S. saw Euro Stoxx 600 slid more than 1.5%, and each section of this index entered negative areas. The crash and serious uncertainty in the stock markets have a high likelihood of burdening on the global economic recovery.

The losses were triggered by three factors generally: Investors concern that the Federal Reserve Board (FRB) will accelerate tightening of monetary policy in the face of renewed inflationary expectation pressure based on recent data about non-agricultural employment and salary growth. A scrutiny of valuation of the U.S. stock market revealed that the whole market valuation has reached a looming level before crash. And the tumble of bond market in recent days eventually spread to the stock market. In addition, according to Goldman Sachs research, quantitative hedge funds deteriorated the collapse of market.

From the valuation point of view, the P/E ratio of the U.S. stocks is 25, being close to the 1929 great depression, even surpassing the 2008 financial crisis. Chief Investment Officer of Commonwealth Financial Network, Brad McMillan, said the stock market had been over pushed due to the overconfident for a long while. The decrease demand of gold globally can be the proof of increasing capital inflow to the stock market, accumulating substantial bubbles and lead to a further decline in the stock market in future. Highlighting the size of the problem and the drag on future economic growth, the technology stocks will be the first to bear the brunt, their market value is likely to shrink dramatically. Therefore, the interest rate hike could be the incentive rather than primary cause, leading to callback in the stock price and market. 

For the bond market, the yield on the 10-year Treasury bond rose to about 2.89%, reaching its peak during 4 years’ historic average. This situation is sparked by the Tax Cuts and Jobs Act decreed by the House GOP that abating tax of enterprises and increasing government fiscal deficit. Michael Schumacher, analyst of Wells Fargo, predicts that the government is planning to scale up the issue of bond by 50% this year. For now, investors returned to bonds as a safe haven, however, the bond market cannot be safety once the price of stock and bond hit a turning point of risk appetite in Parity fund. 

The global economy has been recovering since the 2008 financial crisis. By some estimates, the United States achieved full employment and surpassed the peak of economic expansion according to the stable growth of non-agricultural employment status. The global quantitative easing for 10 years come to the end and begin a contraction era. Bridgewater Fund founder, Ray Dalio, indicates that the decline in the stock and bond market drag the whole market to the typical recession period of business cycle where it is difficult for the FRB to implement monetary policy correctly and inflict a recession as investors worried that the FRB’s tightening speed will exceed the market expectations caused by inflation in the U.S. 

Predictably, the volatile U.S. market could pull the economy slowdown. The FRB expects to raise interest rate three times this year. With higher corporate borrowing rates and operation costs, the profit of enterprises will shrink, and the aggravation of the government debt burden will also bring great pressure on the U.S. economy. As a leading indicator, there is an evidence that stock prices tend to move about six months ahead of the economy, as a result, the plunge of the U.S. stock market is a warning signal for current economy. Furthermore, statistics show the direct shareholding of the U.S. population stand at 40% of their financial assets. Once the stock market crashes, the residents’ assets will be reduced severely, followed by low consumption directly. Hence, there is a growing risk of the U.S. economy, which contributes to GDP by personal consumption, will have a downward trend and even exert a significant drag on global economy growth. 
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