Mark Lister, 14 January 2016

It has been a terrible start to the year for share markets around the world, with the US market down 6.0 per cent in the first week of 2016, the worst opening week in history. Pinpointing the reasons for the sell-off is pretty easy. There’s a long list of things to be worried about at the moment, all of which are somewhat intertwined, so you can take your pick of just about any combination.

For me, the two key issues are China and oil prices. Some might also choose to cite disappointing global growth, the end of easy money from the Federal Reserve, geopolitical tension and markets that are priced to perfection after a six-and-a-half year rally.

China has been the market that has grabbed the headlines of late, which is unsurprising given the sharp moves we have seen. But to be honest, the Chinese share market is a bit of sideshow.

It has fallen 15 per cent so far in 2016, which makes it more than 40 per cent below where it was in June last year. However, it was up some 60 per cent in the six months preceding that, so compared to a year ago, it is down a much more modest 7 per cent.

China is a very different market to what we’re used to. Chinese shares are traded largely by local retail investors, and they treat it like a casino, quite literally. As gaming revenues in Macau have slumped over the last two years, the number of retail share trading accounts in China has gone through the roof.

Expect this excessive speculation to continue to unwind, and the circus that is China’s share market to remain volatile.

While this isn’t a huge concern for global investors, what’s happening in the underlying Chinese economy is. As the economy slows much more than the authorities will admit, the powers that be are allowing the Chinese currency to steadily decline in the hope of increasing competitiveness.

When combined with the stronger US dollar, this spells trouble for many other parts of Asia and the emerging world. It is this dynamic we need to watch more closely than what is happening with Chinese shares.

Oil prices have been another important factor in the recent volatility. After falling another 10 per cent so far this year to the low US$30’s, crude oil is at 12-year lows. Many people are betting on it going lower still, and until we see this key commodity find a bottom, it’s hard to see financial market volatility dissipating.

On a brighter note, it hasn’t been all bad so far in 2016. The first US jobs report of the year was a very strong one, with the 292,000 jobs created in December well ahead of expectations.

We also saw the latest manufacturing activity index for Europe hit the highest level in 20 months, with output growth and job creation up across every single nation covered.

We’re also coming off a pretty strong finish to 2015, so a bit of weakness isn’t a huge surprise. New Zealand shares were exceptionally strong last year, with the 13.1 per cent rise in the final three months registering the best quarterly performance since the second quarter of 2003, more than 12 years ago.