Edmund Burke, the 18th century British parliamentary orator and political thinker, is credited with making the oft-quoted statement, “Those who do not know history are destined to repeat it.” With the 2016 trading year off to a historically bad start, we thought this a perfect time to focus on a little history. How historic was January? The first 10 trading days of January were the worst 10-day start in the history of the major US exchanges, and their subsequent rally moved January back up the rankings to the worst January since 2009 and the 9th worst since 1950.
But did you know that Edmund Burke also said, “You can never plan the future by the past.” We believe that the latter statement actually provides the right tenor as we tackle these present difficult market conditions. We learn from our mistakes, and looking forward we plan accordingly. We realize that the Great Recession is on the minds of most, but we also feel that current market conditions would seem to be more opportunistic that apocalyptic.
Two primary forces that are having a very negative impact on this historical start and continue to negatively influence market conditions and investor sentiment are China and the price of oil. Let’s look at China first.
China’s GDP is slowing. 2016 estimates for Chinese GDP growth is below 7%, a slowdown from past years. The driver of slowing growth is overcapacity in construction and production, ie. industry. Consumer demand, however, has remained a bright spot for the country. Exports have been impacted by slower growth in developed markets which buy its goods and by the strength of its currency. The government began a process of gradually weakening the Yuan against the dollar, which led to fears of currency collapse. China’s slowdown has primarily hurt commodities and materials producers, but the makers of consumer goods could also get caught up in a decline. Recent data, however, shows that the economy is not deteriorating as had been feared.
Now let’s look at oil. With crude oil prices as low as $26 per barrel, the important question is whether this is a case of too little demand or too much supply? If this is a demand issue, then this would signify major global weakness (often blamed on China). We believe that this is primarily supply driven and that the sharp price declines are mainly a result of too much oil.
Even at these extremely low prices it seems that very few producers are willing to cut production in order to push prices back up. A study released by Wood Mackenzie, LTD shows that global oil production has slowed by only 0.01%, or roughly 100,000 barrels per day. Countries like Russia and Venezuela, whose economies are very dependent on the price of oil, seem willing to “talk” about production cuts but not very willing to actually cut production. Traditionally Saudi Arabia was looked at as the stabilizer or swing producer, cutting or increasing production to bring prices in line. With the recent emergence of the US as a major oil producer, the Saudi’s appear to have decided that the US needs to assume this swing role. Market forces will force US producers to cut output eventually, but it seems that lower oil prices are likely to stick around for longer than we thought. This is good for consumers of oil globally, and some observers expect cost savings to shift to other parts of the economy once consumers see oil prices sticking at lower levels.
Positives include leading economic indicators, consumer sentiment, and employment data which all continue to trend in the right direction.
While we expect global market volatility to continue in 2016, we think that opportunities for future investment will present themselves. We are looking to reduce our exposure to some troubled areas while tactically looking to add to other oversold areas as market conditions improve. While the start to 2016 is of a historic nature, we also believe that it provides opportunities for later in the year. To paraphrase Mr. Burke, “We can’t be so consumed with the past that we stop looking forward.”