Q&A: The global stock market sell-off explained

    Wednesday saw the beginning of a slump in stock market values worldwide, but what is behind the declines?

    :: Why are stock markets falling?

    The main reason for the steep falls is because the US Federal Reserve, the country’s central bank, has indicated that it will raise interest rates in the world’s largest economy more rapidly than expected.

    That means higher borrowing costs for US consumers and businesses, which could lead to a slowdown in the economy and, for companies with high debt levels, lower profits as their interest repayments rise.

    The Fed has raised interest rates three times so far in 2018 and has indicated there will be at least one more increase before the end of the year.

    Jerome Powell, chairman of the US Federal Reserve, said there would be four rate hikes in 2018.

    :: But why should that hit markets elsewhere?

    Higher US interest rates suck money out of other assets around the world and back into US assets — depriving other economies of capital.

    That is a particular worry for some Latin American economies, for example, if investors demand a higher premium for putting their money there rather than in US assets.

    In addition, a lot of borrowing in emerging markets is denominated in US dollars.

    When US interest rates rise, the dollar becomes more attractive to hold, while other currencies fall in value in relation to the greenback.

    In emerging markets, when the dollar rises, then the cost of servicing and ultimately repaying that debt goes up (when expressed in their local currency) for people, businesses and governments who have borrowed in dollars.

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    :: Anything else?

    There are an awful lot of things for investors to be concerned about just now.

    The biggest thing keeping investors awake at night is the risk of an intensification in the trade war between the US and China.

    It has exacerbated fears that the rate at which the Chinese economy is growing has slowed down.

    That is bad news, for example, for the mining companies that sell China the raw materials that power its economy or for German manufacturers who supply Chinese industry with machine tools.

    It’s also terrible for countries like Vietnam that have a very close trading relationship with China. Other factors of concern to investors are the risk of a "no-deal" Brexit, signs of a possible clash between the EU and Italy over the latter’s refusal to set a responsible budget, and the US midterm elections.

    But the relationship between the US and China is the biggest concern.

    And, overlaying all that, is the inexorable rise of debt. The International Monetary Fund’s latest report reveals that global debt stood at $182tn (£137tn) at the end of 2017, representing a 50% increase over the past decade.

    If other economies raise interest rates like the US — or even start to withdraw the fiscal stimuli put in place after the financial crisis — that raises the cost of servicing and ultimately repaying debt for a lot of borrowers.

    Traders at the New York Stock Exchange in September 2008

    :: Was some kind of sell-off inevitable?

    Absolutely. Another very important factor to bear in mind is that we are now at the end of a very long running cycle in which stocks have risen inexorably upwards.

    The current bull market in equities is now in its 10th year in both the US and Europe. At some stage, a correction was inevitable. It is no surprise whatsoever that the most violent falls in stocks in recent days have been in stocks that have enjoyed the most spectacular gains, most notably US tech stocks like Apple and Amazon, but also the likes of Fever-Tree Drinks in the UK, which has lost a third of its market value during the last week.

    Article source: “https://news.sky.com/story/qa-the-global-stock-market-sell-off-explained-11523432”

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