Share Prices are Falling Again: What’s been driving them lower?

Written by Brian Parker, Chief Economist, SunSuper.

It’s not just the last week or so. It’s been a challenging few months for global share markets. However, it’s also important to remember that this follows an extended period of very strong returns from global share markets. Over the five years to July 2015, the MSCI World index posted a return of better than 17 per cent per annum in Australian dollar terms.

A range of concerns have adversely affected markets in recent months: the ongoing debacle in Greece, the meteoric rise and spectacular fall in Chinese share prices, and fears of an imminent rise in US official interest rates. More recently, some weak manufacturing data from China, which, when combined with moves by the Chinese authorities to allow their currency to weaken, added to concerns about the health of the Chinese economy. A weaker currency tends to be good for economic growth because it boosts exports and helps restrain imports. Markets viewed the authorities’ actions as signalling a greater level of concern about the economy’s health.

And world oil prices have fallen further. Markets have attributed to weaker demand, which might be telling us something about the underlying health of the world economy. This is a “glass half empty” slant on the oil price move. True, a lower oil price might well reflect anaemic demand, but it could also be due to abundant global supply (there is plenty of the stuff around – the major Middle Eastern producers haven’t reduced supply in response to lower prices). Moreover, in most major economies a lower oil price helps to boost consumer spending and lower business costs.

HOW ARE THE OTHER MAJOR ECONOMIES FARING?

If we look outside China, the latest data on the performance of the other major economies suggest that growth elsewhere is holding up quite well. Despite the fact that Greece’s economy remains in dire straits, the economy is very small, and growth across much of the Eurozone remains quite reasonable. In the US, the only reason why markets are able to debate the timing of a rise in US official interest rates, is that the economy remains very healthy – in other words, US growth looks strong enough to no longer require interest rates being kept at such extraordinarily low levels.

HOW IS AUSTRALIA IMPACTED BY RECENT DEVELOPMENTS?

Australian shares have followed global share markets lower in recent weeks, and that decline has now gathered considerable momentum.

As Australia’s major export destination, developments in China have a significant impact on the Australia’s economy as well as our currency and share market.

HOW ARE YOUR INVESTMENT AFFECTED?

Your investment portfolios options will be affected by the short-term ups and down in world markets. However, it’s important to remember that these options are well diversified, and have some key features that reduce the impact of share market volatility on returns.

While share markets have fallen recently, fixed interest portfolios have benefited from higher bond prices as investors sought out the safety of longer term government bonds, and investment options with an allocation to fixed interest have benefited.

For those with a long-term investment horizon, short-term fluctuations in markets, even declines as large as those seen recently, are part and parcel of the investment environment, and may in fact provide opportunities to purchase good quality assets at discounted prices.

This is what we would expect active managers to be doing in this environment. For those with greater sensitivity to short-term fluctuations, it may be appropriate to consider options that provide a lower chance of negative returns.