It’s not just Donald Trump’s trade wars that are a risk to your money…
Even if that’s what’s front and centre stage right now.
If you look hard, there are multiple threats to the markets.
And if any or all of them really kick off, you’d better watch out…
We could see a major volatility spike… and a devastating correction to global stock markets.
So at Monkey Darts, we think it makes sense to be looking to shift at least some of your money into assets that tend to hold and even increase in value in the kind of tough times we face ahead.
We’ll give you details of some of these “crisis assets” later in today’s issue.
But first, let’s see what we’re up against.
Stocks still have support
By the way, stock markets may have been looking a little shaky lately.
There have been one or two decent pull-backs here and there over the past few months.
The odd 400-point drop on the Dow. And a couple of hundred points shed from the FTSE. That sort of thing.
But more often than not, buyers have come back in to prop the markets back up.
In fact, some markets are still looking pretty strong, all things considered.
(That’s what’s worrying me, to be honest, as I’ll explain.)
For example, the broad American stock market (S&P 500) is only 5.5% off its all-time high set in January.
The Dow Jones is down more, around 9% off the January peak. But that’s still not quite ‘correction’ territory (i.e. a 10% drop).
And here in the UK, the FTSE is just 3% from the peak. A mere ‘dip’ in a bull market that’s been running since the post-GFC bottom in March 2009.
It’s like UK and US investors don’t give a damn about all the bad stuff that’s going on in the world. (Which we’ll look at in a moment.)
We may have had some jitters earlier in the year – remember the February volatility spike and 10% flash crash?
We talked about it here in Monkey Darts at the time. We said it was the markets firing a warning shot across investors’ bows.
But investors shrugged that correction off. And most Western markets have held up since.
It’s not quite the same story in some parts of the world, though…
The China problem
No doubt about it, Chinese investors and overseas investors in China are spooked…
Given the unfolding trade war narrative between Beijing and Washington, you wouldn’t expect anything else, would you?
I mean Trump’s having ago at everyone from Canada to Mexico to Russia to India to the EU.
But it’s China that’s facing the biggest hit. And that’s taking its toll on the stock market.
The benchmark Shanghai Composite index has been clattered over the past six months.
It’s now down 22.5%, putting it well and truly in bear market territory and at its lowest level in more than two years.
That’s not great news if you have any money in China.
And although most of us don’t directly hold Chinese stocks, if you have an internationally diversified pension fund, the chances are you have some exposure.
But to me there’s a bigger problem with China…
The threat of contagion
A UK investor’s exposure to the country itself is likely so small as to be insignificant in terms of a diversified portfolio.
And given the long-term prospects for the Chinese economy, it makes sense to have a bit of exposure.
Martin Jacques, author of When China Rules the World, believes that by 2030, China may account for as much as a third of global GDP. Its economy will be bigger than the US and Europe combined.
If Jacques is correct in his prediction, that bodes well for long-term investment in China.
Still, right now, China’s market is unloved. People are selling out.
But the bigger concern is what a serious ongoing bear market there and in other emerging markets could have on our own domestic markets.
It’s not just the threat of Trump’s tariffs and other protectionist policies that are hitting China’s stock market. Nor is it just that recent data shows a slowdown in growth.
It’s also the strength of the US dollar caused by the Federal Reserve raising interest rates.
It means that the Chinese yuan and other Asian currencies are falling relative to the dollar.
And that’s not a good sign.
In 2005 and 2006 sharp falls in the yuan triggered chaos in Chinese stock markets.
That soon spread to markets around the world.
And as MarketWatch reports:
“Less than three years ago, a devaluation of China’s yuan currency, also known as the renminbi, triggered a sharp selloff in global equity markets that also engulfed Wall Street.”
The risk is that if we get another significant sell-off in the Chinese currency it will spark more weakness in the stock market… and more contagion around the world…
Including the markets you and I invest in.
Not that Beijing is planning on letting that happen – if you believe the official sources.
CNN reports: “In a statement posted on the Chinese central bank’s website Tuesday, Governor Yi Gang said it’s “paying close attention” to recent fluctuations in the market and will seek to keep the yuan stable at a reasonable level.”
We’ll have to wait and see.
But bear in mind that a weaker yuan is one way Beijing can offset a weakening economy as it makes its exports cheaper for other countries.
And with the looming trade tariffs from the US, that can help balance things out for China.
So, my bet is currency wars will play a part in the months ahead.
And if that gets out of hand, and causes more carnage in the Shanghai index, it could well spill into Western stock markets, too.
Trade wars set to escalate
Meanwhile, a new report from HSBC highlights the threat of an escalation in the global trade wars “to a new, more worrying stage”.
The report says “‘protectionist contagion’ is also a risk with both Canada and the EU considering tariffs on third countries themselves.”
HSBC concludes that: “Even the tariffs already in the pipeline threaten to weaken an already slowing trade cycle but broader and more immediate impacts could come via weaker asset prices, sentiment and, particularly, investment spending given the uncertainties about global supply chains.”
All of which sounds a little complicated, so let’s simplify it: trade wars are a clear and present threat to the global economy and stock markets.
And there are other major threats, too. Each of them could spark a major rout in markets and ratchet up volatility.
Further risks to global markets
First, is a sharp rise in interest rates.
I don’t mean a gradually rising trajectory as we’ve been seeing in the US.
In theory, that should be OK.
Stock markets should take that in their stride because investors perceive it as a sign of a strong economy.
And if the economy is growing, then that should feed through to stronger earnings for companies. Which should mean higher stock prices.
The worrying thing will be if interest rates lurch higher.
You know, if the Fed is forced to raise rates faster than they’ve signposted.
And that’s something that could happen if inflation gets out of control.
Which is exactly what the IMF alluded to in a report on Tuesday:
“At the current stage of the business cycle, the expansionary fiscal policy stance, while boosting U.S. and global output in the near term, could increase risks and uncertainties in the medium term,” the report read.
The IMF pointed to “an inflation surprise as an important risk that, if realized, could create volatility in financial markets, with negative global consequences.”
They also cautioned that “emerging markets with weaker macroeconomic fundamentals could face the risk of a marked reversal of capital flows.”
Again, it’s that kind of outcome that could result in a spike in volatility and a sell-off in global stock markets.
Oil could cause an inflation shock
And with the oil price on the rebound, this could be exactly the trigger that will cause an inflation problem.
We’ve been following the oil story a while in Monkey Darts.
We made the case for it going substantially higher – perhaps to $80 a barrel, even $100, as Donald Trump threatened to end the “Iran nuclear deal”, disrupting the oil supply.
But over the past couple of months things have been cooling down in the oil market. After peaking in May at $72.88, the price corrected 13% by mid-June.
In the last two weeks, though, buyers have come back in and pushed oil through the May peak to trade as high as $74 earlier this week.
And it looks like oil could be heading a lot higher in the months ahead, thanks to Donald Trump throwing his weight around.
CNBC has the story:
“The Trump administration’s goal of crushing Iran’s energy industry increases the risk of a temporary global shortage before the end of the year that could send oil prices spiking to $100 or more, analysts say.
“The U.S. wants Iran’s oil revenue to fall to zero, as it moves to reinstate sanctions Nov. 4, and officials have been telling consuming companies and countries to stop all purchases. The Trump administration is aggressively pursuing a plan to keep the more than 2 million barrels a day Iran exports from reaching any paying customers within months.”
That kind of oil price spike could be just the sort of trigger to spark inflation or at least concerns about inflation.
And stock markets won’t like it.
It raises the threat of more aggressive tightening by the Fed to combat inflation.
And it’s yet another reason we could be heading for an increase in volatility and a nasty market sell-off.
What do you make of all this?
WARNING! Investors aren’t expecting volatility
I can’t help feeling that with all this bad stuff waiting in the wings, investors should be a little bit worried right now.
But that’s not showing up in the CBOE’s Volatility Index (“VIX”), which measures investors expectations of future volatility.
OK, there’s been a slight uptick in the VIX over the past couple of weeks.
But it’s still bumping along near its lows.
That indicates that investors aren’t concerned at all. They’re not expecting volatility.
And it’s not showing up in stock markets.
They continue to tread water, even if they’re not exactly racing higher. Investors aren’t taking any steps to lighten up on stocks.
My feeling is that perhaps they should be. Before it’s too late and a serious market correction hits.
Of course, we don’t know what the trigger will be or when it will come. It could be any of the things we’ve looked at. Or it could be some other shock to the system.
But whatever it is and whenever it comes, there could be a race to offload stocks… and move into assets that perform well when stocks are falling.
Wouldn’t it be a little smarter, though, to plan ahead of that and protect yourself now – before we get a serious market correction?
Revealed: Four ways to protect your wealth from the coming crash
My colleagues at Canonbury have just finished preparing an eye-opening report that’ll bring you right up to date with what’s going on with the VIX.
If you have any money in the financial markets, you need to see this.
The report is almost ready – we’ll send it to you early next week. So keep an eye out for that.
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