Market Update

The world markets experienced a pullback this past week in reaction to events in China, a further decline in oil prices, and North Korea’s announcement that it detonated a hydrogen bomb (H-bomb).

In China, investors’ concerns over the Chinese economic slowdown resulted in panic selling in their stock market. The Shanghai Composite experienced a 7% drop on two different days, the last being Thursday. Due to the sharp sell-off, the Chinese market triggered “circuit breakers” that halted trading both days. The trading stoppage stimulated panic due to the perceived lack of buyers for those trying to sell their positions. On Thursday, the China government decided to suspend the circuit breakers to try and help price discovery. In addition, the Chinese central bank cut its benchmark lending rate. But to allay fears that China is devaluing its currency indiscriminately, the central bank also took steps to strengthen the yuan.

Oil prices followed suit this week, dropping another 10 percent down to around $33 per barrel. Supplies have continued to grow because the production of oil still exceeds consumption. Markets responded with a correlated drop as they have the past two years.

It didn’t help matters that earlier in the week the North Koreans staged a powerful explosion it claimed to be an H-bomb test. The latest provocation increased tensions in the region. All of North Korea’s neighbors, including China, responded by denouncing the claimed testing of a nuclear device.

The net result in the U.S. has been a lot of volatility and a 3 percent decline in the S&P 500. However, the US economic data continues to point to an economic recovery. For example, the most recent jobs report estimated that 292,000 new jobs were created in December. Furthermore, the numbers for both October and November were revised upward by 40,000 and 10,000 respectively. For all of 2015, 2.7 million jobs were added.

In addition, persistent low oil prices will facilitate the stimulation of consumer spending and help the retail sector to recover. Earnings season starts next week, which could be a chance for companies to deliver good news as a result of lower oil and energy costs. Although a reported 15% of the companies in the S&P 500 are negatively impacted by falling oil prices, the majority of companies have a positive reaction to lower energy prices.

Finally, the global uncertainty should cause the Fed to consider fewer interest-rate-hikes this year. At the end of 2015, most analysts thought the Fed would raise short-term interest rates at least six times. Now they are thinking more like two to four times. This means lower interest rates will likely persist longer than originally projected.

We believe that the market is oversold on a shorter-term basis. The oversold market coupled with improving jobs number and first-quarter earnings that companies will begin reporting next week should set up for a market rally over the next week or two.

This has been a volatile week. If you have any questions, please contact us.