First it was the plunge in the Chinese stock market earlier this summer, then it was the surprise devaluation in the yuan early in August, the first serious devaluation since 1994. It seems like China is turning out to be the biggest story of 2015 and could have big implications for how we trade for the rest of the year.
So is it time to panic over the fate of China? We think that there are three major implications from events in Beijing in recent weeks. Firstly, China could stay quiet for the rest of the year. The Chinese authorities surprised the markets by devaluing its currency, which is unlike China, who traditionally avoids surprising financial markets with policy changes. This suggests to us at City Index that the Chinese authorities could keep policy changes to a minimum for the rest of the year, and another devaluation is unlikely in the coming months. Thus, Chinese-inspired volatility could be behind us.
The second point to note is that there could be some unintentional consequences from the devaluation. When a currency weakens sharply it can cause capital flight from the country. This happens when domestic investors decide to invest their money outside of their home country for reasons including: a lack of confidence in the domestic economy seeing them seek better returns overseas.
If the recent stock market fluctuations and the currency devaluation do lead to Chinese investors looking overseas to invest their money then it is worth following the money. In the past, Chinese investors have chosen to invest in land and natural resources in Africa and in the London property market, two areas that could see a mini boom if Chinese investors do look overseas to invest their money.
Finally, China has major implications for the oil price. Oil has continued to slide in the aftermath of the Chinese currency devaluation, suggesting that the markets are concerned about the state of the Chinese economy and its future demand for oil. With oil prices continuing to tumble, this has major implications for Middle East oil producing nations. Without a stabilisation in the situation in China then it may be hard for the oil price to stage a sustainable recovery.
So what does this all mean for the Middle East? Oil is definitely looking oversold from a technical basis, however, for it to stage a meaningful recovery then we may need to see our first point play out – now that the Chinese authorities have shocked the markets, they could embark on a more cautious policy path for the rest of this year, which could help the economy to recover, and thus trigger a stabilisation in the price of oil.
So, even if you don’t have direct exposure to Chinese assets, events in Beijing could still impact financial markets and your bottom line. Thus events in the East could determine the fate of Middle Eastern economies and the future oil price in the months to come.
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