Monday January 11

Stocks rise marginally to start the week in spite of further losses in Chinese markets. The S&P500 rose 0.1% to 1,923 and the Dow Jones rose 0.3% to 16,398. Today’s session was volatile and prices remained firm in spite of 5% losses for the Shanghai Composite as well as oil prices touching notable lows. The VIX remained elevated at 24.3. Possibly contributing to very cautious optimism in markets today was the PBoC raising the renminbi daily fix for the second consecutive day. This may indicate that the PBoC is committed to preventing a sharp depreciation of the currency which would have negative ramifications around the world. In addition economic data out of China showed that consumer and producer price indices indicate that the economy so far has been able to avoid inflation, which may open the door for further monetary easing or stimulus to remedy the current state. Oil prices fell today with Brent losing 6% to $31.55 and WTI losing 5.6% to $31.31. The dollar gained 0.7% against the euro to $1.0850 and added 0.3% against the yen to Y117.76. Similarly gold prices fell as investors may have shifted away from haven assets. The ten year US Treasury increased 4 basis points to 2.17% and the two year yield remained flat at 0.94%.

The extent to which China’s problems will spread to other parts of the world will dictate the amount that international financial markets will sell off in the coming months. Although China’s stock market, currency market, and banking system are largely separated from the international financial community the Chinese economy still is a large factor in economic growth all over the world. Investors see these metrics as a gauge for the health of the underlying Chinese economy, therefore investors all around the world react to sharp changes in the Shanghai Composite or the renminbi. China’s sheer size and demand is a factor in the prices of many goods and commodities, making the health of Chinese economy a crucial piece in the global economy. It is estimated that China makes up 11% of global GDP, and it is the largest consumer of many industrial metals and commodities. It is also the leading trade partner for countries such as South Korea, Australia, Brazil. Sales and revenues directly from the Asian region account for only 5% of the revenues of US companies. The extent to which China’s economy effects US markets and the global economy will be determined by the reliance of these countries on China’s demand.

Oil prices today resumed their fall towards $30. This is a largely negative factor for US stock prices as oil companies and companies that are suppliers to the energy industry make up a large portion of the largest US companies. Stocks with energy exposure therefore have been a big drag on indices in recent months. Although gas prices are notably low all around the country the positive effects to consumers will lag the more immediate negative effects to the energy sector. In addition to a supply glut oil prices have also been driven lower by fears that demand from China will decrease along with the country’s economy. China is the second largest consumer of oil. Concerns of the supply glut are being increased by the possibility of Iranian oil hitting the market as sanctions are set to be lifted. Dollar strength (and higher interest rates) are also another negative factor on oil prices. Morgan Stanley estimates that for each 5% appreciation in the dollar oil prices may fall between 10 and 25%. Consensus estimates from investment banks for oil this year remain in the low $40 range.

Turkey and South Africa will be two emerging markets to watch this year. Both countries battle weak growth, high inflation, political uncertainty, as well as weak currencies. Such an environment poses difficult problems for the central bank, and makes it difficult for the government and corporations to pay down debt denominated in hard currency. Turkey has some tailwinds to its favor, including the fact that it is an importer of oil (benefiting from lower prices) and a weak currency that makes its exports cheaper for European countries. Turkey currently has a 4% government deficit, inflation of 8.8%, and GDP is expected to be between 3 and 4%. South Africa faces several headwinds this upcoming year. The country is a large producer of commodities, and the outlook for many of its exports is bleak. In addition the central bank has little room to loosen monetary policy and on the contrary many expect rates to rise in the country. The rand fell 25% last year and has fallen another 7% this year, and higher rates may be warranted to prevent further inflation. Higher interest rates will be a headwind to companies and households. Growth is expected to be just 1.5% this year in South Africa.

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Monday January 11

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