This is a market correction, not a market meltdown

The big question on everyone’s mind is this: Where to next?
It is clear that China is staring down a barrel. On the first day of last week the Shanghai stock market plunged 8.5%, losing trillions of dollars. Chinese equities have shed over 40% since their recent highs in June, resulting in one of the largest worldwide selloffs since the 2007/8 global crisis. The People’s Bank of China (PBoC) enacted urgent measures to slash the main interest rate, but so far precious little has helped. We have seen the authorities attempting to do everything in their power to jumpstart the ailing Chinese economy which they claim is growing at 7% per annum. Analysts are highly sceptical about that figure and many believe that the true figure could be half that.
Despite the interest-rate cut, the Shanghai Composite ended the day on Wednesday, August 26 some 1.3% lower. It wasn’t only Chinese equities that were hurting, European stocks also fell as volatility gripped global markets once again. The Shanghai Composite dropped to an 8-month low on Wednesday on the back of bearish sentiment among investors and traders. Highly erratic trading activity characterised the Chinese bourses, with the Shenzhen Composite plunging 3.1 percentage points after rallying during the course of the day.

Economic Performance of Chinese Equities
The rout is significant in China. The CSI 500 small-caps dropped some 28%, while the CSI 300 shed 25% last week alone. The negative sentiment in Chinese equities is somewhat surprising given the strong gains posted by Chinese insurers and banks whose stocks rallied on the back of rate cuts. Among others, Ping An Insurance rose 5%, Bank of China jumped 4.8% and there was a 9.3% spike in shares of China Merchants Bank.
The People’s Bank of China (PBoC) is looking at as many ways as possible to restore market confidence. One of the biggest problems facing China is capital flight. Since the economic slowdown and currency devaluation, international investors have been pulling their money out of China, or earmarking funds for other investment opportunities – notably U.S. equities. European markets managed to recoup some of their losses for the day after opening lower. But the good news is that U.S. futures are higher, following the dramatic selloff during the final hour of trading on Tuesday. The S&P 500 is merely 1% better off than it was after all the gains it accumulated until the end of 2013.

Predictions Moving Forward
Credit bubbles in China, a rampant U.S. dollar, and historically-low interest rates in Europe and the U.S. have combined to create the perfect storm in equities markets. That coupled with geopolitical crises have fuelled the uncertainty and volatility with major currencies. Economic weakness in China has led to a global commodities meltdown with prices of oil, copper, precious metals and other produce dropping significantly. Massive capital flight from BRICS countries and other emerging market economies has seen these currencies depreciate at an unprecedented rate.
We cannot discount the fact that global GDP is declining, as evidenced by the dramatic appreciation of the USD against a basket of currencies. Long-term loans in USD are now markedly more expensive and emerging market currencies are coming under tremendous pressure. Mexican equities have to-date plunged 22% for the year, Brazilian equities are down 45%, and Korean equities are down 25% over the same period. These trends are commonplace among emerging market economies. The Dow Jones Industrial Average showed some steel when it surged after the opening bell on Wednesday, August 26. But equities are a long-term investment and stock markets invariably go through many cycles.

Please note that this column does not constitute financial advice.