The fact that stock markets were off to such a dismal start during the first month of the year was enough to have some investors wondering if another global recession is looming. The S&P 500 index has managed to wipe out approximately $2 trillion in market capitalization over just a few weeks, echoing similar declines in other equity markets.
Meanwhile, crude oil has slumped below $30/barrel on fears of a supply glut, exacerbated by the lifting of Western sanctions on Iran and allowing the country to return to the oil export market with a vengeance. This, and concerns about an ongoing slowdown in China, have posed more uncertainties on the financial markets, leading many to believe that the worst isn’t over yet.
What the gurus are saying
According to expert investor George Soros, some of these financial market signs are already pointing to the possibility of a recession. “When I look at the financial markets, there is a serious challenge which reminds me of the crisis we had in 2008,” he was quoted saying around the second week of January, before stocks chalked up yet another week in the red.
“China is struggling to find a new growth model and its currency devaluation is transferring problems to the rest of the world,” Soros told the Sunday Times in Sri Lanka, adding that financial markets are “facing a crisis and investors need to be very cautious.”
US investment bank Morgan Stanley supported this grim view, citing that softer demand among developed economies and a likely slowdown in emerging nations could be a recipe for another recession. The banks’ analysts predict that the probability of this taking place is as high as 20% in the worst case scenario, as capital outflows from China could worsen the situation.
Unwinding of risk and stimulus
Although the numbers are showing that the world’s top economies have managed to make it out of years’ worth of negative GDP readings, this has mostly been a result of an era of low interest rates and massive stimulus programs. Recall that several central banks decided to loosen their monetary policy in order to spur lending and spending activity.
This, in part, has fueled a stellar rally in stock markets as investors used the additional liquidity to buy shares of companies at cheaper levels back then. As the global economy gained momentum, speculative buying paved the way for much stronger rallies and even more capital infusion.
However, as the US Federal Reserve has already begun to take these easing measures off the table by hiking interest rates in December, many are worried that the positive momentum might soon be reversed. This is also the case in other economies which have mostly relied on central bank easing to shore up their economic performance.
Now that the growth momentum appears to have lost steam, it’s unfortunate that central banks have used up most of the firepower in their monetary policy arsenal, leaving them with very little options left in case their economies need more support. Interest rates are still very close to zero, with the European Central Bank and Swiss National Bank actually keeping negative deposit rates in play, while asset purchase programs could prove to be unsustainable.