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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.
Image: Jerome Powell, chairman of the US Federal Reserve, has said there will 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.

Donald Trump has promised further tariffs on China if it retaliates 3:37
Video: Trump ramps up trade war with China with $200bn or new tariffs

:: 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
Image: The current bull market in equities is now in its 10th year in both the US and Europe

:: 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.

:: What's been happening in the bond markets?

The bond market is readjusting its expectations of US interest rates.

Yields (which rise as the price falls) on 10-year US Treasuries have surged from 2.853% at the end of August to as high as 3.261% earlier this week.

To put that in context, US 10-year yields have not been that high since May 2011. US Treasuries have a particular impact on the US housing market because most US mortgage rates are priced off, and move in response, to bond yields. Higher bond yields have a knock-on effect to the so-called "real economy".

A toddler managed to shred his parents' hard-earned money
Image: US corporate profits are strong – partly because of Mr Trump's tax cuts

:: Donald Trump has said the Fed is "crazy". Is he right?

Not really. The US economy is on a tear and US corporate profits are strong – partly because of Mr Trump's tax cuts, which led a lot of American companies to bring money back to the US that had been kept offshore.

Unemployment is at just 3.7% – a level barely seen in the last half-century. The US economy grew at an annualised rate of 4.2% in the second quarter of the year. The Fed is acting perfectly rationally in assuming that raises a risk of higher inflation and raising the cost of borrowing accordingly.

:: What's the relationship between bonds and stocks?

Normally, bond and equity markets have an inverse correlation. If stocks are in demand, investors will tend to switch from bonds to equities, sending bond yields higher. If stocks are out of favour, investors tend to switch out of equities and into bonds, sending yields lower.

HUAIBEI, CHINA - JANUARY 13: (CHINA OUT) An investor observes the stock market on his phone at an exchange hall on January 13, 2016 in Huaibei, Anhui Province of China. The Chinese stock market was volatile on Wednesday as the Shanghai Composite Index dropped 73.26 points, or 2.42% to 2,949.60 points and the Shenzhen Compposite Index tumbled 314.88 points, or 3.06% to 9,978.82 points. (Photo by VCG/VCG via Getty Images)
Image: It's rare to see both stocks and bonds falling at the same time

:: Hang on – recently we've seen both stocks and bonds falling?

You've put your finger on one of the most worrying aspects of the recent shake-out in markets.

It's rare to see both stocks and bonds falling at the same time. Potentially it could hurt investors who have sought to diversify risk.

Bond yields rising is usually a sign that the economy is growing strongly, that investors are putting their money into stocks instead and that interest rates are set to rise in response to higher inflation.

This increase in yields is more reflective of the fact that the US budget deficit is starting to increase (partly thanks to Mr Trump's tax cuts) and so US investors may be demanding more of a premium to hold US Treasuries.

That said, US Treasury yields have eased back during the last couple of days as stock markets have fallen, suggesting the relationship is reverting to normal.

:: OK, now I'm really scared.

If you want to be really scared, take a look at Mr Trump's track record.

In business, he liked to borrow a lot, describing himself during the 2016 presidential campaign as "the king of debt".

On at least four occasions during his business career, when debts threatened to overwhelm his businesses, lenders were forced to take a haircut on their loans to him.

Since becoming president, Mr Trump has shown a willingness to adopt tactics he used in business, such as an aggressive approach to haggling over trade deals and taking an "I win, you lose" approach rather than the traditional attitude to free trade deals which is that everyone wins.

Reneging on the US national debt would be a logical progression – albeit a terrifying one given that US Treasuries are the most widely-held asset in the world.

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Would Mr Trump dare do that? Well, in May 2016, he said this to CNBC: "I would borrow knowing that if the economy crashed, you could make a deal. And if the economy was good, it was good, so therefore you can't lose. It's like you make a deal before you go into a poker game. And your odds are much better."

No one is suggesting that Mr Trump is going to walk away from America's debts. But the thought that he might is starting to fray a few nerves.

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Sports Direct counts cost of House of Fraser rescue

Sports Direct has reported a 27% fall in half-year profits as it counted the cost of swallowing up failed department store chain House of Fraser.

The retailer, controlled by tycoon Mike Ashley, said House of Fraser had notched up a loss of £31.5m since it was acquired in August for £90m.

The group also injected £70m into the department store's supply chain and Mr Ashley admitted that he faced "significant challenges" turning around its fortunes.

Sports Direct reported underlying pre-tax profits of £64.4m for the six months to 28 October, down from £88m a year ago.

Mr Ashley said that, stripping out House of Fraser, the group was on course to grow full-year earnings in line with target but that including the department store chain it was set to be behind last year's result.

The Sports Direct chief executive said: "I have made my views clear that I believe the previous House of Fraser senior management team traded the business whilst it was insolvent for a long time.

"This means we have significant challenges ahead in turning House of Fraser around.

"However, I genuinely believe we have acquired a fantastic opportunity and with the efforts of Sports Direct and House of Fraser teams, and the support of the brands, local councils and landlords, we can turn House of Fraser into the Harrods of the high street."

The company said that it had "spent the post acquisition period working with staff, suppliers, concessionaires and landlords to create a viable business".

Sports Direct bought 169-year-old House of Fraser out of administration in August and Mr Ashley said he aimed to keep open 80% of its 59 stores – though has since said that to do so would be a "godlike" feat.

It means that thousands of jobs remain in doubt as the billionaire tycoon seeks to persuade landlords to slash store rents so that he can keep them open.

Sports Direct has already said it is to shut four stores at shopping centres in Essex, Gateshead, Norwich and Nottingham after failed talks with their owner, property group Intu.

Meanwhile suppliers, pensioners and customers have been left out of pocket as the administration process meant the business was picked up free of liabilities for its new owners.

Earlier this month, Mr Ashley told Sky News that House of Fraser could be merged or "should at least work very closely together" with rival Debenhams, a company in which Sports Direct owns a 30% stake.

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But there was no mention of that suggestion in the latest statement.

More follows…

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Brexit blamed as housing market hits six-year low

By John-Paul Ford Rojas, business reporter

Brexit uncertainty has pushed a key measure of the housing market to a six-year low, according to surveyors.

The Royal Institution of Chartered Surveyors (RICS) said its house price balance – a gauge of whether values are more commonly rising or falling – slipped to -11 in November, down from -10 in October.

It was the lowest level since September 2012 and worse than expected by economists.

RICS chief economist Simon Rubinsohn said: "It is evident… that the ongoing uncertainties surrounding how the Brexit process plays out is taking its toll on the housing market.

"Indeed, I can't recall a previous survey when a single issue has been highlighted by quite so many contributors."

Residential properties in London
Image: Caution is visible among house buyers and vendors, the survey suggests

Price falls were most acute in London and the South East of England – where there are more higher-priced homes, exposed to higher stamp duty, and there is also anxiety about the impact of Brexit on the capital's financial services sector.

The survey also pointed to falls in the number of people looking for a new home, new properties being listed for sale and agreed sales.

There was also a big downturn in expectations for sales in the coming three months, with this measure falling at its sharpest since the Brexit referendum in June 2016.

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Mr Rubinsohn said: "Caution is visible among both buyers and vendors and where deals are being done, they are taking longer to get over the line.

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"Significantly the forward-looking indicators reflect the suspicion that the political machinations are unlikely to be resolved any time soon.

"The bigger risk is that this now spills over into development plans making it even harder to secure uplift in the building pipeline to address the housing crisis."

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‘You can’t tariff your way out out of a trade deficit’: Here’s why China’s exports to the US have held up in the face of Trump’s trade war

  • Growth of Chinese imports targeted by tariffs has fallen sharply in recent months.
  • But the US-China trade deficit has held at a record high.
  • Trade balances are influenced by a combination of factors, including foreign exchange rates, the strength of an economy, and how much a country borrows from abroad.

Washington and Beijing have placed tariffs on hundreds of billions of dollars worth of each other's products, leading certain imports to an expected slowdown on each side. But even as China loses share in markets targeted by tariffs, its trade surplus with the US has remained at record highs.

US import growth of Chinese products included in the first round of tariffs dropped from 8.6% to -22.1% year-over-year in October, for example, according to UBS economist Li Zeng. While growth has held up relatively better for imports targeted in later tranches, it has still declined.

Likewise, American businesses have warned they could lose market share in China's market. Farmers, for example, have lost out to other countries in the face of retaliatory duties on agriculture products.

But the US has imported other products from China at an accelerated pace in recent months. The goods trade deficit with Beijing hit an all-time high of $43.1 billion in November, with Chinese shipments to the US up by nearly a tenth from a year earlier.

"The Trump administration is learning you can't tariff your way out of a trade deficit," said Adam Ozimek, an economist at Moody's. "So, if you decrease some imports with tariffs it will be made up by greater imports in other goods and services or fewer exports. There are no surprises here."

Trade balances are determined by an assortment of factors, including foreign exchange rates, the strength of an economy, and how much a country borrows from abroad. There are countries with low tariff rates and significant trade surpluses, Ozimek noted.

The decline in imports subject to tariffs could also be due to a slowdown in frontloading, or companies rushing orders to avoid duties. There had been an added level of uncertainty when the first round of tariffs was levied because Americans weren't sure if Trump would follow through, said Mary Lovely, a professor at Syracuse University and expert on trade at the Peterson Institute for International Economics.

"Americans were on notice for later rounds of tariffs, though, and they did increase imports ahead of the tariff," she said. "This anticipation effect can be seen in the UBS charts. Recent declines in imports may reflect a letdown after this anticipatory stock up."

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The stock market’s death cross is particularly bad news this time around, Bank of America says

  • The dreaded technical death cross has formed in the S&P 500.
  • A death cross occurs when the 200-day moving average falls below the 50-day moving average.
  • The S&P 500 experienced a death cross earlier this month, and a new report from Bank of America's technical analysts explains why this time could be especially painful for investors.
  • "The effects of an S&P 500 Death Cross became amplified when the 5-period slope of the 200 day [moving average] was negative," the analysts wrote.

The stock market's recent drop has come fast and furious, with the S&P 500 plunging nearly 5% in the last week and seeing its losses total 8% in three months. The benchmark index even briefly slipped into a correction — defined by a loss of at least 10% from its recent peak. And while trade tensions appear to be thawing, giving investors some hope, there's a technical indicator that poses a threat to bullish momentum.

The death cross.

A death cross forming in the S&P 500 is never a welcome development for investors. After all, the long-term technical indicator denotes short-term momentum is slowing, and is widely viewed as a bearish signal.

And this time around, the death cross could prove even more damaging, according to a new report from Bank of America's technical analysts.

The current death cross — when a security's short-term moving average falls beneath its 200-day moving average, or in popular cases the 50-day falling beneath its 200-day — which formed on December 7, features a declining 200-day moving average. That bodes particularly poorly for the market, if history is any indication.

"The effects of an S&P 500 Death Cross became amplified when the 5-period slope of the 200 day [moving average] was negative," technical research analysts Stephen Suttmeier and Jordan Young wrote in a note to clients out Tuesday.

"This scenario, which is the present case, saw average and median returns drop by 2.72% and 4.31%, respectively for 20-day returns. Performance for all periods going out to the 195-day return window became impaired."

The S&P 500's performance drastically weakens when the index enters into a death cross with a falling 200-day moving average.

Zooming out and examining more historical context for death crosses featuring falling 200-day moving averages paints an even grimmer picture.

The percentage of time the market rose following S&P 500 death crosses while the 200-day was in decline dropped to 25% from 59.43% for the 20-day return period, according to the report.

Furthermore, "the standard deviation of returns dropped across all return periods, implying more consistent inhibited returns after a Death Cross with a declining 200-day MA."

The analysts noted the current death cross is just the 47th-ever such formation in the S&P 500 since 1928.

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Shopify wants to become the ‘back office’ for direct-to-consumer brands’ ad budgets and marketing

  • Shopify has quietly become a major e-commerce player powering DTC brands' websites.
  • The company aims to be a one-stop shop for merchants, handling fulfillment, analytics, and web design.
  • While Shopify is best known for e-commerce, it's increasingly moving into marketing and paid advertising to compete with Amazon.
  • Brands like how Shopify can create customized websites, but Amazon can handle all parts of e-commerce for brands, including shipping and warehousing.

Outdoor Voices, Allbirds and Kylie Cosmetics have more in common than being direct-to-consumer startups.

All three use Shopify to power the back-end of their e-commerce websites and are a few of the platform's 60,000 merchants. From toothpaste to bed sheets, the number of direct-to-consumer brands pitching wares has exploded, and instead of selling products in retailers or through Amazon, DTC companies are increasingly selling through social media platforms or their own websites. At the same time, Amazon is cozying up to small and mid-size brands with its "Amazon Storefronts" site that sells items from 20,000 merchants.

As the DTC boom continues, Shopify has quietly become a tech giant through its self-serve platform that powers e-commerce, handles fulfillment and analytics, and, increasingly, ad buying. Shopify reported $270 million in revenue in the third quarter (a 58% year-over-year spike) and expects to bring in roughly $1.05 billion this year. The company's growth and work with DTC brands landed Shopify on Business Insider's annual list of most interesting ad-tech and mar-tech firms of 2018.

While 12-year-old Shopify is most known for handling e-commerce, the firm is building out its marketing platform with tools that let merchants do things like run paid media campaigns on Facebook and Google and text a virtual assistant called Kit to manage their campaigns. There is also a messaging app named Ping that logs customer queries for merchants to respond to.

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Shopify offers an alternative to Amazon for merchants who don't want to rely entirely on the e-commerce behemoth for their business. But there are catches to both.

One major challenge with Shopify is that it can be harder for merchants to drive traffic to their own websites than it is to Amazon, said Matt Rednor, who runs the ad agency Decoded Advertising. Merchants also have to figure out warehousing and shipping on their own with Shopify.

"You need to generate your own traffic to your [Shopify] website," he said. "If you're not a savvy marketer that knows how to drive traffic, then it's hard for you to prove success there. Amazon has a built-in audience and billions of online buyers already."

But retailers that go all-in on Amazon risk becoming "dependent on Amazon not screwing you," Rednor said. For example, Amazon can control prices and brands' ranks in search results.

Shopify wants to handle digital ads for retailers

Shopify's director of product and marketing technology Michael Perry said Shopify aspires to be a one-stop shop for merchants, particularly direct-to-consumer brands that use the company's software to sell through their Instagram, Snapchat and Facebook accounts.

"We've become the true back office for all these businesses that are now having this direct-to-consumer experience," Perry told Business Insider.

In addition to powering e-commerce sites and doling out reporting and analytic tools, Shopify is inching into paid media. In October, the company launched a marketing section to its platform that allows for merchants to create, run and track Facebook and Google ads.

Unlike traditional brands that focus on branding and creative, direct-to-consumer marketers are notorious for zeroing in on performance marketing and often don't have huge advertising budgets to spend with agencies.

Shopify is looking to capitalize on brands moving advertising in-house and is arming its merchants with media-buying tools. Merchants can set a daily ad budget and Shopify's tools — including the virtual assistant Kit that Perry founded — then manage ad campaigns and can set bidding and targeting parameters automatically.

Michael Perry Shopify Kit

Shopify also recommends specific products for merchants to promote in ads based on how they're selling.

"It once took teams of people at agencies and huge pools of people to leverage all these places where their audience existed," Perry said. "Now, we've done so much with helping them maintain and scale their authenticity through really smart technology choices to help them create those bridges of direct-to-consumer relationships that they historically have not been able to establish on their own."

Shopify also has an app store — much like Apple's App Store — in its marketing dashboard that offers services that merchants can pay for to handle more complex, ongoing ad campaigns. For $49 a month, they can use an app called Looga to manage their Facebook advertising. Most recently, Shopify added support for Google Ads to its platform and also plugs into Google's Smart Shopping campaigns that use machine learning to change bidding, creative and targeting on the fly for small businesses and retailers.

Shopify doesn't completely replace media buyers, though

Decoded Advertising's Rednor said that while Shopify's move into advertising does cut into the work that media buyers do, it does not necessarily replace the strategy, creative and branding expertise they can offer.

"There's still a reason that you need the best of the best, and so I'm not concerned," he said.

Rednor has been experimenting with Shopify and Amazon to sell its 42 Birds yoga brand — a brand the agency built itself to better understand what makes direct-to-consumer marketing work. Right now, 42 Birds' e-commerce efforts are split between Amazon and Shopify.

"It's more expensive to have everything on Amazon, but they handle your warehousing and shipping for you," he said. "We're trying to test the waters and hopefully start shifting away from Amazon and more towards Shopify if we can — it allows us to create our own brand and we don't have to pay as high of a commission and other charges as you do with Amazon."

Digital brands are setting up IRL stores


As direct-to-consumer brands move into physical retail, Shopify isn't far behind. Furniture brand Burrow, for example, is testing a brick-and-mortar store a few blocks away from Glossier's recently opened flagship store. Brooklinen and Thinx have also set up holiday pop-ups in New York's SoHo neighborhood.

The Boy Brow Room

A post shared by Glossier (@glossier) on Dec 7, 2018 at 2:00pm PST on

Shopify is the technology behind many of these brands' websites and has developed point-of-sale technology similar to Square as they move into physical retail.

Physical retail still makes up 90% of sales and point-of-sale technology is an area where Shopify sees an opportunity to further blend the personalization of e-commerce shopping with real-world stores.

"The landscape of physical retail has matured — people don't like walking in big, random malls or department stores," Perry said. "They want to have that Instagram-like experience in the real world, and they will see a lot more of that in 2019."

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