In this week’s market update: Chinese shares play catch up after a week-long shut-down; US politics is in focus as impeachment and the Iowa Democratic caucus vie for attention; and life after Brexit gets underway in the UK.
After a week-long extended New Year shut-down, it was always likely that Chinese shares would fall sharply when the markets re-opened in Shanghai and Shenzhen. The drop of more than 9% at one point for the CSI 300 Chinese benchmark on Monday was the worst opening in the country for around 15 years.
At the close, the market was 7.9% down on the day, the worst performance in the last five years. 80% of companies were down by the maximum 10% limit. Although that suggested there could be further falls to come, markets actually stabilised on Tuesday. The CSI was up 1.6% reflecting relief that Beijing moved swiftly to support the financial system.
With more than 20,000 cases and 420 deaths by the end of Monday, the virus continues to spread. The first deaths outside mainland China have been reported in the Philippines and Hong Kong. The number of infections is now twice that during the 2003 Sars outbreak although the mortality rate is lower this time.
Despite lower fatalities, the isolation of China has intensified. Russia closed its border with its southern neighbour last week and Hong Kong shut most of its crossings with the mainland on Monday. Flights into China have been dramatically scaled back. Some territories such as Singapore have blocked entry to travellers from China.
The market recovery on Tuesday followed a stabilisation in other markets on Monday. Japan’s Topix fell by just 0.7% on Monday and rose by 0.3% on Tuesday while Hong Kong rose by 0.9% on Tuesday. Here in the UK, the FTSE 100 rose 0.6% yesterday and was higher again this morning while shares in Europe were modestly higher after falling 3% last week.
In the US, where shares have now given up all their gains for 2020 to date, the S&P 500 also bounced, up 0.7% yesterday.
The stabilisation in China’s markets came after concerted efforts by the authorities to minimise the fallout. There were signs that the so-called national team of state-run institutional investors had stepped into the market. China’s securities regulator ordered mutual funds to limit net daily sales of large-cap stocks. The People’s Bank of China lowered the cost of short-term loans and boosted inter-bank liquidity.
The Chinese market is more vulnerable to sharp falls than many of its peers around the world because trading is dominated by individuals who can be more flighty at times of stress than institutional investors who take a longer view.
Even as the market was plunging on Monday, it was reported that there was strong northbound buying of shares along the so-called stock connect link between Hong Kong and Shanghai and Shenzhen.
As well as the obvious unknown of when and how the outbreak can be contained, the big question from a market perspective is what the economic impact will be in the first quarter and beyond. It has been estimated that Chinese growth in the first three months of the year could fall to 4.8% compared with an already depressed 6.1% in the whole of 2019.
A key difference between this year’s outbreak and Sars 17 years ago is the changing shape of the Chinese economy and its relative importance. Back in 2003 there was a relatively quick rebound as factories got back to work. This time there is a question mark over how extended the impact will be both in the more services-focused domestic Chinese market and overseas where Chinese tourists are an increasingly significant factor. China accounts for twice as much of global output as it did in 2003.
As well as China’s equity markets, there were big falls in commodities linked to China’s economy, such as iron ore (down 8%) and copper, off 6.5%. The price of Brent crude slid further to $54, down from over $70 last month and into bear market territory. Opec and its allies are once again preparing cuts to production to underpin the price of crude.
Coronavirus is an important market influence this week but not the only thing going on. In the US, politics is front and centre as the impeachment trial of President Donald Trump continues, although that’s heading for an almost certain acquittal thanks to the continuing support of Republican senators.
The Presidential election also gets underway in earnest this week, with the first state-level selection, the caucus in Iowa. For the Democrats, it has been an inauspicious start to the nominations process, with technical glitches preventing it from announcing the result in Iowa last night.
That aside, as with the UK election in December, the issue facing America is how far to the left the opposition will swing in its bid to unseat the incumbent President. With left-winger Bernie Sanders neck and Elizabeth Warren in contention, the possibility of a radical agenda of healthcare reforms, tax rises and re-regulation hangs over the US market, even if it is not yet investors’ central case at this point.
The Iowa caucus is the first in a season of primaries the continues lasting until the summer. It matters because, as the first contest, it can set the tone for subsequent primaries - in recent years no-one has won both Iowa and New Hampshire and then failed to win the Democratic nomination later in the summer.
As well as Iowa and impeachment, this week in the US is notable for the annual State of the Union address by the President, which takes place on Tuesday and for the non-farm payrolls data which are issued on Friday. All in all then, a busy week on the other side of the pond.
Over here, politics is also in focus as Britain starts life after Brexit with a speech by Prime Minister Boris Johnson setting out battle lines for the upcoming trade negotiations with the EU. Already the tone of those talks has descended into an uncompromising stand-off. The UK is vowing to win the right to diverge from EU standards and the Europeans have responded that doing so will make close economic ties impossible to agree.
Although these opening skirmishes should be seen in the context of a year-long negotiation, and no more than the expression of starting positions from which many compromises will emerge, they do confirm that the talks will be tough for both sides.
As ever, the pound is the early barometer of the political mood and sterling started life after Brexit on the back foot. Market concerns over a possible hard Brexit at the end of the year are once again to the fore and are likely to be a recurrent theme throughout the next 11 months. The pound is currently only just holding above $1.30 despite the support from last week’s decision by the Bank of England not to cut interest rates.
Finally, the main long-term driver of share prices - corporate earnings - will also be in the spotlight this week, with nearly 100 of the S&P 500’s constituent companies reporting profits this week. Car makers are in focus, with both General Motors and Ford unveiling figures. Technology too will be watched closely with Alphabet disappointing investors last night and Twitter also due to report.