What May Be Causing The Stock Market Sell-Off?
The markets are crashing. In just two trading sessions, the S&P 500– a major market index in the US – has fallen by more than 5%. Closer to home, our local stock market barometer, the Straits Times Index (SGX: ^STI) is down more than 3% in just two days, while Hong Kong’s Hang Seng Index and Japan’s Nikkei 225 are down 2.9% and 4.2%, respectively.
It is difficult to say what is causing the sell-off, but there are a few ongoing issues that may be weighing on the minds of investors.
On-going geopolitical uncertainty
Most of us would know by now that a trade war between China and the United States has officially begun. US president Donald Trump’s administration kicked things off, with tariffs on US$34 billion worth of Chinese imports. In a tit for tat move, China retaliated. A few weeks later, the United States added tariffs on another US$16 billion worth of imports and later imposed taxes on an additional US$200 billion of imports.
Analysts have warned that the trade conflict could potentially reduce GDP growth in China by up to 0.2 percentage points over the next few years. With neither country backing down, the trade war could spiral further, which could increase prices for consumers and dampen company earnings.
International Monetary Fund (IMF) downgrades global growth forecast
On Tuesday, 9 October, the IMF reduced its growth outlook on the global economy to 3.7% for 2018, down from 3.9% respectively. The IMF also expects the US economy’s growth to slow down in 2019 to 2.5% from 2.9% this year. Its forecast of 6.2% growth for China in 2019 also represents the country’s slowest growth rate in 28 years.
With the news that the IMF is less optimistic on global economic growth, investors could be getting cold feet and pulling their money out of their investments.
The Federal Reserve raising interest rates
When interest rates rise, stock valuations should come down, in theory. This is because when interest rates are higher, the premium earned on stocks compared to bonds and T-bills are narrowed and investors will have a higher preference to put their money in the safer assets. Last week, the Federal Reserve, the US’s central bank, raised benchmark interest rates there for the third time this year. The Fed also said that it expects to raise rates once more this year and three times in 2019.
Besides investors fleeing to other assets, companies might also suffer when interest rates rise as higher interest rates increases the cost of borrowing and reduces consumption.
Corporate-tax cuts no more a factor in 2019
This year, corporate tax cuts in the United States that were enacted in late 2017 have been a big boost to year-on-year growth in US companies’ results. However, come 2019, the tax cuts will be a year old and will not impact yearly growth anymore.
Earnings growth in 2019, for this reason alone, could be very much lower than it is this year.
The Foolish bottom line
It is difficult to pinpoint the exact reasons why a market sell-off happens. Besides what I have already mentioned, the fact that the markets are on a 10-year bull run may also be weighing on market participants minds.
The four reasons mentioned above could have a very real impact on earnings growth in the next year or so. However, investors should not be focusing on short-term fluctuations, and instead think about investing in terms of decades, rather than years. The impact on earnings due to the above reasons should only be short-lived. When the dust eventually settles, investors who were willing to go the distance will most likely be well-rewarded.