Gill Capital Partners: 2nd Quarter - 2015 Market Commentary
Q2 2015 Market Overview Most major equity and bond indices ended the second quarter flat or marginally negative, as fears surrounding the Greek situation spooked markets around the world on June 29th, driving 2%+ single day drops in equities and eroding gains for the quarter in a single day. The largest positive move came in the form of a rebound in the price of oil, with WTI crude surging 25% during the quarter to nearly $60/barrel.
The economy produced another unexceptional but modestly positive quarter. We anticipate economic growth to pick up in the second half of the year, albeit at a moderate pace. We see an interesting divergence amongst monetary policies playing out globally; the U.S. and likely England will soon be raising interest rates on signs of economic strength, while the rest of the world will remain in easing mode due to low growth and inflation. Europe will continue its easy money policies given the Greek situation, and China seems undeterred in supporting its markets through any means possible (more on China below). This will further support the U.S Dollar and place the focus squarely on economic fundamentals going forward. We don’t see rising rates as the end of the world; volatility will certainly pick up, but we believe that most of the ups and downs will be short-lived for equities. Our focus is squarely on asset allocation and containing overall portfolio costs while providing institutional quality portfolios. We continue to believe that stocks will outperform bonds going forward, and that we will need to look overseas for better bargains within equities. Within fixed income, we continue to devote significant resources to managing our client fixed income allocations to avoid losses as rates rise.
An Update on China
The news headlines would have you believe that the recent volatility we have seen in the Chinese equity markets are in some way comparable to the great depression, or even worse. We wanted to give a brief update on what is happening in China, and why it is not as significant as is being portrayed in the news.
1. The chart below illustrates the returns of the Shanghai and Shenzhen stock markets (China’s two main markets) over the past year. There has been a significant drop over the past few weeks. However, both of these markets are still up 80%+ over the past year, even after the recent down drafts. The recent drop was a response to the unrealistic and unsustainable move higher that occurred from April-June.
2. The Chinese stock market rally was heavily manufactured; many called it the “state bull market,” believing that the government would guarantee that share prices would go up. Massive amounts of stock have been bought on margin, adding fuel to the fire for many first time Chinese investors, who believed the government promised them a bull market but led them into a buzz saw.
3. The good news is, unless you’re reading this from China, you probably don’t have much invested in these markets. Foreigners own just 1.5% of Chinese shares. Most foreigners own the higher quality companies that are listed on foreign exchanges; these companies have experienced much less volatility in recent weeks, as can be seen in the bottom line on the chart below.
4. As the cracks began to form around the foundation of the bull market, the Chinese government opened up their bag of tricks by making it cheaper and easier to buy stocks. They cut interest rates, lowered lending standards, and loosened pension fund rules. As the market began selling off aggressively, the government doubled down. They began pressuring companies to buy back their own stock, barred major shareholders from selling, suspended IPOs, and even went as far as threatening to arrest people for selling stock.
As mentioned, this “crash” will largely just impact the Chinese. The more significant concern is that a sophisticated economy like China’s needs a healthy equity market. Before the crash, China was moving towards reforms that would improve their markets, increasing institutional presence and supervision of insider trading. However, the government’s role in the unrealistic rally and their response to the crash represent a step backward for their equity markets.
Please feel free to contact us with any questions or concerns about this report.