26 Aug What’s going on in the market?

Something has been brewing in the market these last nine months and it has been difficult to point a finger at precisely what it is. It’s no secret that oil has played havoc with the energy market as the price of a barrel of oil has slipped to a third of its all time highs. But is this the cause of all this volatility?

Looming in the shadows, China has been steadily growing at an astronomical pace, which has driven demand for Canadian resources, including energy and metals and minerals. It’s been great for Canada, and it’s what we do well. With the massive expansion in China slowing, it’s no surprise that everything else should slow too. But it hasn’t been that simple. The Chinese have fallen for one of the oldest schemes in the book: leverage.

When money is cheap to borrow and the stock market is doing well, it can be a lucrative thing to take a loan and invest the money into the market. The interest is tax deductible and the expected growth can be like winning the lottery. In China, everyone is doing it, and with such a large population it can have real impact on the valuations. They did it at a time when the market was already at or beyond healthy values, and then they artificially drove it up more. When it finally fell apart a couple of months ago, the Chinese took action and dropped interest rates. The intent was to encourage even more borrowing but this time to invest in expansion. Finally, two weeks ago they allowed the value of their currency to slide. These things were not expected. The scope not imagined.

Uncertainty creates short-term volatility

We have seen this result in uncertainty in North American markets and that in turn creates volatility. I’ve seen it before and we will see it again. A higher degree of short term volatility only lasts for a short period before a correction takes place. History dictates that we will experience about one correction per year (a 10% or more decline). These are healthy and recovery is usually swift. The period of uncertainty lasts only as long as we are without clear direction of what the impact is, and when it will stabilise. There are always some complicating matters, which cloud the main issues, such as the Greek debt, a US election, and to some small degree, our own election in Canada. Make no mistake, these things shall pass.

At this moment, fund managers are capitalising on our uncertainties. Is Shell Oil worth less because oil is down? Have the world’s largest consumers of oil suddenly parked their cars and shut off their heat? Will the world stop shopping at Walmart? Logically, it doesn’t make sense, so clearly the driving factor is emotion. Experts from all corners of the market have stated that this isn’t sustainable. So like many times before, the fund managers take advantage of this to snap up bargains. They always have cash reserves in their funds and this is time when they will deploy them.

Where do we go from here?

This is always a time of trepidation for investors because we are emotionally attached. That is why I encourage investors to look at things more objectively, to appreciate what is happening behind the scenes as they reposition and employ strategy to capitalise on the situation. To meet with me and make small changes to re-position or re-balance. This is the time to be making that RRSP contribution, or to top off that TFSA. And when you are the most upset, I invite you drop by and throw a brick through my office window, but before you do – write a cheque and wrap it around the brick with a rubber band. You’ll thank me later.

As always, please give me call should you wish to discuss.

Best wishes for the final weeks of summer.

Chris