By Liz Maroney, Westlawn Wealth Adviser (CFP) 26 August 2015
It has certainly been a stormy week for investors. On Wall Street, the Dow Jones Index fell 1,089 points on Monday’s open before closing 588 points down for the day. It has now had its biggest 3-day fall on record. In Australia, the ASX200 fell 4.1% on Monday and (at the time of writing on Tuesday) was down 12.3% for August. This has been the ASX200’s worst month since 2008. It’s now at its lowest level since July 2013.
So what’s driving this instability and volatility in global share markets?
China: Stabilising currency takes priority over protecting equity market
Much of what has taken place in global financial markets in recent days has been driven by fresh concerns over the pace of growth in China and further volatility on Chinese equity markets.
Chinese policymakers appear to be prioritising the slowing economy and stabilising the currency over protecting the country’s equity market. And so, as a result of the apparent lack of immediate policy action on the latter, the Chinese equity market continues to fall sharply. This has led to falls in global equity markets.
There have been no other signs of a broader global economic slowdown. In fact, apart from China, there has been no signs of renewed economic weakness in the US, Europe or Australia.
What about US monetary policy?
Since the onset of the Global Financial Crisis (GFC) in September 2008, all the world’s major central banks had been easing monetary policy by lowering interest rates and when rates reached zero, they undertook Quantitative Easing (QE) programs of various shapes and sizes (ie in the US, UK, EU, Switzerland and Japan).
The ongoing recovery in the US economy, especially through 2014, meant that the US ceased its QE program in October 2014 and began thinking about raising interest rates. To date, the US Federal Reserve (the Fed) has not raised interest rates – although Fed officials are still talking about a potential rate hike this year.
While normalising US monetary policy (raising interest rates) was always going to be challenging for financial markets, “the latest market turmoil was not set off by the Federal Reserve but by worsening growth concerns about emerging markets, and particularly about China,” according to a statement from Ord Minnett Wholesale Stockbroking Services.
“For the moment, we believe the odds of a global recession remain low, but accept a higher risk of sustained below-trend growth.
“The reason we don’t believe it is the end of the cycle is because we do not think Chinese weakness is sufficient to bring about a global recession, and because there remain sufficient supports from cheaper oil, lower bond yields and monetary easing in emerging economies,” Ord Minnett stated.
Putting recent falls into perspective
It’s worth noting that although the fall in share prices seem severe in a short term context, the chart below illustrates the extent of the fall in a longer term context (1/01/2010 to 24/8/2015). Global share markets have produced extremely strong returns over recent years.
The MSCI All Country World Index captures large and mid cap representation across 23 Developed Markets (DM) and 23 Emerging Markets (EM) countries. With 2,478 constituents, the index covers approximately 85% of the global investable equity opportunity set.
What does market volatility mean for your investments?
For accumulators: It’s time in the market, not timing the market, that’s important. So, if you can ride out the volatile times, you could have a smoother return over the long term. Diversifying your investments across different asset classes can help to defend against volatility and reduce investment risk.
It’s also important to manage your expectations. A slower global economic growth rate means a period of lower returns on traditional asset classes. Returns in the decade leading up to the GFC were abnormally high, so it’s important not to use these returns as the norm. It’s also important to be aware of your own tolerance to risk so that you can assess new investment opportunities as they arise.
For pre- and post-retirees: If you’re in retirement or nearing retirement, it is understandable you want to protect your investments. After all, your investment returns play a vital role in funding your retirement. In times of volatility it’s easy to react emotionally. But now is the time to keep a level head and stick to your long term investment strategy.
Trying to time the markets and responding to every market movement could leave you considerably worse off. It’s a good time to seek professional advice and remember that markets do recover. Don’t let short-term volatility get in the way of your longer-term needs.
The advice on this site may not be suitable to you because it contains general advice that has not been tailored to your personal circumstances. Please seek personal financial, tax and/or legal advice prior to acting on this information.
Westlawn Wealth Management Pty Ltd ABN 32 124 861 409, Authorised Representatives of GWM Adviser Services Limited ABN 96 002 071 749, Australian Financial Services Licensee, 105 -153 Miller Street North Sydney NSW 2060.