Recent economic data and key indicators suggest things are going to get much worse than they already are for the global economy.
When I look at what’s happening in the Chinese economy and global trade, I am worried. I’m worried because the U.S. economy will not be able to dodge the bullet.
Let me explain…
China Slowdown Accelerating
The Chinese economy is facing severe headwinds. This year, the country’s growth rate is expected to slow again after a weak 2014. Last year, the Chinese economy grew at 7.4%, its slowest pace of growth since 1990. (Remember, China is the second-biggest economy in the global economy.)
Economic data from the country is quickly turning bleak.
Fearing the economic slowdown, China’s central bank, the People’s Bank of China, reduced the amount of reserves commercial banks must hold in an effort to boost lending. In a statement, the central bank said, “(we) will continue to implement a prudent monetary policy… guide monetary credit and social financing to steady moderate growth and promote the smooth operation of economic health.” (Source: New York Times, February 4, 2015.) In other words, China’s central bank will do what it can to stimulate its slowing economy. (It had already reduced some of its benchmark interest rates in November.)
Demand for raw material is deteriorating in China. Steel prices are in a slump due to this. And imports of other raw materials into the Chinese economy are collapsing. In these pages, I have already been writing about falling copper and lumber prices.
The slowdown in China indicates demand in the global economy is in pullback mode. China is known as the factory of the world; it exports significant amounts of goods to other nations.
2015 Global Trade in a Slump
On the topic of global trade, I have written in the past about the Baltic Dry Index (BDI) and how it gives us an indication of where global demand is headed. Please look at the chart below for the latest reading from the BDI:
Chart courtesy of www.StockCharts.com
The BDI sits at its lowest level in 30-plus years and well below where it was in 2009.
The argument going around is that the BDI is down because of falling oil prices, since it is an index tracking freight prices for dry commodities. As oil prices go down, freight prices decline. The logic makes sense, but crude oil prices are still much higher now than they were in 2009, when they were at only $35.00 per barrel. The BDI has collapsed much lower than it did in 2009.
U.S. Economy and Corporate Earnings
I warn again: the global economic slowdown won’t be good for the U.S. economy and the corporate earnings of American companies as the U.S. economy isn’t an isolated island.
Over the years, to increase revenue, American companies have turned their focus to the global economy. About half the S&P 500 companies now derive revenue from outside of the U.S. Do you really think that with the global economy slowing down, the earnings of the S&P 500 companies won’t be affected? Of course they will.
With the S&P 500 currently trading at 20 times earnings, stocks are not just expensive, they are severely overvalued.