What to Watch Out for In this Global Stock Rout

This rout of global stocks and indices came out of nowhere but there are several things we need to pay attention to. These are the factors dragging equities lower.

We are noticing that the economic slowdown in Europe is picking up. Especially in the European powerhouse Germany. This is the biggest drag on the European markets and there is no quick solution here. Mario Draghi and the European Central Bank (ECB) must fight any further weakness in the euro by easing policy. That is the solution here.

Last week, data out of Germany, showed weakening conditions with industrial output. This was down four percent last month. Germany’s economy also contracted 0.2 percent (quarter on quarter) in the second quarter. For the entire Eurozone, economic growth or gross domestic product (GDP) expansion was flat. This was not what we expected.

Yesterday European markets were fairly strong. The rest of the world not so much. The FTSE 100 in London was up 0.4 percent. The German benchmark, the DAX rose 0.3 percent. Since the beginning of September, the FTSE has lost 6.6 percent and the DAX is down 6.9 percent. U.S. markets were routed once again. The S&P 500 lost 1.7 percent as it closed below the 200 day moving average for the first time since 2012 and is now below the key technical level of 1,905. The Nasdaq Composite was also heavily sold as it is near a correction. The S&P 500 is now down seven percent since its record high and the Nasdaq is down eight percent.

Another big drag on the equity markets are oil prices. There is a chance WTI Crude will visit $70 per barrel. WTI is now down 18 percent since its high of $85 per barrel seen mid-2014. There is a weakness in the overall health of the global economy. This is keeping oil prices subdued. There is weakness in the demand for the black gold from China and Europe. There is also an increase in supply, from Saudi Arabia as the fight to keep their dwindling market share and increased strength in the U.S. Dollar. Not to mention we are noting panic selling. Bottom line here, lower energy prices will be good for the global economy as they should help kick start growth.  As consumers spend less on gasoline and home heating fuel, they have more discretionary cash which means they will buy more items in stores.

Next up are the metals. We are seeing a slowdown in emerging markets. Most of this slowdown took place already ending in 2012. Thanks to this we saw a contraction in industrial metal prices. There is also a lot of bad news here but lower prices are priced in. We are now seeing some growth in the world’s largest emerging economy. That would be China. Its GDP growth fell below seven percent in the third quarter but this is a nice healthy growth and it is likely to pick up again through the end of the year.

Lastly, we have a lot of bad news in the form of geopolitics. We have unrest in the Ukraine, major problems in the Middle East in Libya and the fight against the Islamic State which is threatening to overrun Iraq, Syria and possibly Lebanon. The Ebola virus and its spread is also a major concern.

Most of these worries are blown way out of proportion. The Islamic State does not have the fire power to win long term goals and there is light at the end of the tunnel in the Ukraine/Russia problem. The biggest global shock is closer to home and in Europe. The rise of the UKIP Party in England is pushing for a referendum regarding the country’s membership in the European Union. It is gaining steam. There is also major deflationary concerns in the single currency bloc and the outcome is waiting on what the ECB does next. We will need to see a massive easing policy similar to the quantitative easing programs the U.S. and England are now ending. This should support stocks.

Once fear and panic begins to ebb in the global equity markets, investors will shift their gaze to the U.S. Federal Reserve (Fed). They will focus on when the Fed will normalize policy and hike rates. They will focus on the when and how much. This will mean some volatility in Treasury yields as they move higher, pushing prices down.

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