End to Fed Stimulus, China Slowdown Rattle World Markets

federal reserve stimulus bond buying ben bernanke world markets stocks bonds
By Richard Hubbard

LONDON -- The U.S. Federal Reserve's explicit signal it will stop pumping money into the world economy and data showing China's economy slowing down swept across financial markets Thursday, sinking bonds, shares and commodities alike.

Emerging markets, many of which have been primed by easy Fed money, saw some of the biggest selling as investors rushed to the exits.

MSCI's benchmark index for emerging equities slumped by more than 3 percent and shares across the Asian Pacific region outside Japan recorded their biggest one day drop since late 2011.

World stocks in general were down 1.75 percent.

The initial catalyst for the selloff was Fed Chairman Ben Bernanke's surprisingly strong commitment to end the central bank's to asset-buying by the middle of 2014. That sent 10-year U.S. Treasury note yields to 15-month highs.
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"Bernanke came across as being quite clear and I think people were hoping for a less clear cut path to higher rates and that came as a little bit of shock," said Luca Jellinek, head of European interest-rate strategy at Credit Agricole.

Fed stimulus has helped keep the world awash in investment cash as it has struggled with a severe economic downturn.

The withdrawal of such money makes the future direction of financial markets uncertain, although it is motivated by expectations of a more robust U.S. economy.

"We see [Bernanke's statement] as a good sign in the long-term as it shows that a return to normal monetary policy is in the offing, that economic growth is picking," said James Humphreys, senior investment manager at Duncan Lawrie Private Bank.

Thursday's market reaction for many, however, was to run for the hills.

The jump in Treasury yields lifted the dollar against a broad range of currencies by 0.6 percent. Against the yen, the dollar gained around 1.8 percent to 98.18 yen.

The shift into U.S. assets then accelerated when a survey of China's factories showed activity slumping to a nine-month low just as a squeeze in the nation's money markets sent short term rates to record highs.

The stress was clear in Asian credit markets, where the spread on the iTraxx Asia ex-Japan investment-grade index widened 23 basis points, reflecting the rising cost of hedging against debt default.

In the currency market, the Philippine peso lost 1.2 percent to 43.76 per dollar, the weakest since May 31 last year, while South Korea's won fell 1.4 percent to 1,146.6.

India's rupee hit an all-time low on the U.S. dollar, prompting intervention to stem the rot.

"If you put the Chinese numbers together with the policy statements from both, what's clear to me is that the emerging market currencies, particularly with a commodity bias, will continue to go down," said Mark Matthews, head of Asia research at Julius Baer.

Europe Recovers?

In Europe a key survey of business activity from the 17 countries that use the euro helped offset some of the gloom by suggesting the bloc's long-running recession was finally beginning to ease.

The broad FTSEurofirst 300 index, which only last month hit a 5½ year high, was still down by 1.75 percent by mid-morning though off its lows. The euro zone's blue-chip Euro Stoxx 50 index fell 2 percent.

Markit's Flash Eurozone Composite Purchasing Managers' Index, which is seen as a reliable economic growth indicator for the bloc, rose to 48.9 in June from May's 47.7, topping forecasts and leaving it at its highest level since last March.

"At this rate we should see stabilization in the third quarter and growth appearing in the fourth," said Chris Williamson, chief economist at Markit.

The most encouraging picture was in southern Europe where countries such as Spain and Italy saw the smallest declines in two years.

The euro eased 0.5 percent at $1.3223, swiftly retreating from a four-month high around $1.3418 touched on Wednesday.

Oil slipped by around $2 for its biggest daily slide in close to three weeks while gold fell for a fourth straight session to $1,328.75 an ounce -- its lowest level since a 15 percent plunge in mid-April.

If You Only Know 5 Things About Investing, Make It These
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End to Fed Stimulus, China Slowdown Rattle World Markets

Warren Buffett is a great investor, but what makes him rich is that he's been a great investor for two thirds of a century. Of his current $60 billion net worth, $59.7 billion was added after his 50th birthday, and $57 billion came after his 60th. If Buffett started saving in his 30s and retired in his 60s, you would have never heard of him. His secret is time.

Most people don't start saving in meaningful amounts until a decade or two before retirement, which severely limits the power of compounding. That's unfortunate, and there's no way to fix it retroactively. It's a good reminder of how important it is to teach young people to start saving as soon as possible.

Future market returns will equal the dividend yield + earnings growth +/- change in the earnings multiple (valuations). That's really all there is to it.

The dividend yield we know: It's currently 2%. A reasonable guess of future earnings growth is 5% a year. What about the change in earnings multiples? That's totally unknowable.

Earnings multiples reflect people's feelings about the future. And there's just no way to know what people are going to think about the future in the future. How could you?

If someone said, "I think most people will be in a 10% better mood in the year 2023," we'd call them delusional. When someone does the same thing by projecting 10-year market returns, we call them analysts.

Someone who bought a low-cost S&P 500 index fund in 2003 earned a 97% return by the end of 2012. That's great! And they didn't need to know a thing about portfolio management, technical analysis, or suffer through a single segment of "The Lighting Round."

Meanwhile, the average equity market neutral fancy-pants hedge fund lost 4.7% of its value over the same period, according to data from Dow Jones Credit Suisse Hedge Fund Indices. The average long-short equity hedge fund produced a 96% total return -- still short of an index fund.

Investing is not like a computer: Simple and basic can be more powerful than complex and cutting-edge. And it's not like golf: The spectators have a pretty good chance of humbling the pros.

Most investors understand that stocks produce superior long-term returns, but at the cost of higher volatility. Yet every time -- every single time -- there's even a hint of volatility, the same cry is heard from the investing public: "What is going on?!"

Nine times out of ten, the correct answer is the same: Nothing is going on. This is just what stocks do.

Since 1900 the S&P 500 (^GSPC) has returned about 6% per year, but the average difference between any year's highest close and lowest close is 23%. Remember this the next time someone tries to explain why the market is up or down by a few percentage points. They are basically trying to explain why summer came after spring.

Someone once asked J.P. Morgan what the market will do. "It will fluctuate," he allegedly said. Truer words have never been spoken.

The vast majority of financial products are sold by people whose only interest in your wealth is the amount of fees they can sucker you out of.

You need no experience, credentials, or even common sense to be a financial pundit. Sadly, the louder and more bombastic a pundit is, the more attention he'll receive, even though it makes him more likely to be wrong.

This is perhaps the most important theory in finance. Until it is understood you stand a high chance of being bamboozled and misled at every corner.

"Everything else is cream cheese."
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