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The Accumulator: China spooks investors

Emerging markets will suffer from China's currency cuts, but the move also poses problems for Europe's economies.


by Daniel Grote on Aug 14, 2015 at 14:53

The Accumulator: China spooks investors

Markets have endured a difficult week after China took investors by surprise with its most significant devaluation of the yuan in 20 years.

A series of cuts to the currency from China's central bank sent stock markets reeling, as investors fretted over slowing growth in the world's second-largest economy.

China's Shanghai Composite was the only major global stock market covered by our exclusive Accumulator data table to make gains, as investors celebrated the boost handed to exports by the yuan devaluation. Domestic investors enjoyed an 8% rally, with the effects of the currency move bringing that down to 1.8% in pound terms.

Elsewhere, stock markets tumbled into the red. Losses were felt most heavily across emerging markets: India fell 5.1% in the week to yesterday, Brazil dropped 2.6% while Asian markets were down 3.2%.

Emerging markets are big losers from China's move, with export-led economies hurt by the advantage handed to Chinese companies, and a potential slump in the country's demand also weighing.

But the losses incurred by European markets are also noticeable: the MSCI Europe index is down 1.6%, and the German DAX 30 3.2%, this in a week when it neared agreement with Greece over its bailout. And those losses are in pound terms: the falls endured by domestic investors were even steeper, as the euro climbed 1% against sterling over the period.

Deflationary risk for Europe

Europe's economies won't be hit as hard by China's yuan devaluation as emerging markets. Only 6% of the region's exports find their way to China, and only 10% of its imports come from the world's fastest-growing economy.

'While this is not immaterial, the overall level is fairly moderate and highlights the fact that domestic intra-eurozone trade is far more important to eurozone gross domestic product,' said Martin Skanberg, Citywire A-rated manager of the Schroder European fund. 'Further currency devaluations would act as a headwind to export pricing, but cheaper imports may offset this and support domestic consumption in the eurozone.'

The greater, risk, however, is the re-emergence of deflationary pressures in the eurozone as a result of China's move. Inflation still stands at just 0.2% in the eurozone, and it was only five months ago that prices were falling. The latest eurozone growth figures meanwhile disappointed, with gross domestic product rising 0.3% in the second quarter of the year, down from 0.4% in the first.

'Emerging market contagion, currency wars and the potential for spill over into the Asia Pacific basin represent a wider risk to European equities,' said Skanberg, but he also saw a more positive possible outcome for European investors. 'Another scenario is that imported deflationary pressure into the eurozone and adjacent economies such as the UK could lead the European Central Bank to extend its quantitative easing programme.'

The FTSE 100's miners meanwhile ensured the UK blue-chip index also notched up losses for the week. China is the world's top metals consumer, and the higher price it will pay for imports as a result of the yuan devaluation weighed on the shares of mining companies.

A further fall in the oil price, which failed to sustain a brief foray above the $50-per-barrel mark, also didn't help the index, which has a sizeable contingent of oil giants.

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