A deepening slowdown in the world’s second-largest economy is unnerving investors, who have been focused more on the U.S. outlook.
While the debate over whether the U.S. will or won’t fall into a recession continues to play out, China has been struggling with a so-called reopening recovery after three years of zero-tolerance Covid-19 policies. On Tuesday, official data showed that China’s exports and imports each had double-digit drops in July, underscoring the weakness of the global economy.
That report, which XM Senior Investment Analyst Marios Hadjikyriacos called “alarming,” was enough to turn investor sentiment sour across the board and trigger flight-to-quality trades to U.S. government debt and the dollar DXY. Equities buckled under the risk-off tone, with Dow industrials DJIA down by around 270 points in New York afternoon trading and in the process of losing some of Monday’s gains. Oil prices initially moved lower after the development from China, then erased their losses.
“China has been going through a period of reopening later than the rest of the world and there was hope that the country’s recovery would be faster as a result, but that hasn’t happened,” said economist Derek Tang of Monetary Policy Analytics in Washington, D.C. “Other countries were counting on China’s recovery to drive their own growth because the country has been a big driver of demand for the past decade. But now it may have less momentum.”
The “U.S. economy has been firing on all cylinders so there was probably less urgency to look abroad for that upside,” Tang said in a phone interview. China’s slowdown “is generally a good thing for U.S. inflation, but bad for the energy sector” given how much the country imports for its energy needs.
Among other things, China is already facing dual trouble in its manufacturing and real-estate sectors, which have damped the country’s momentum, according to Hadjikyriacos of XM, a Cyprus-based multi-asset brokerage. In a note on Tuesday, the analyst wrote that China’s latest trade data was a “warning sign that both international and domestic demand” are losing power.
Investors began responding to Tuesday’s data “by dumping China-linked assets, with oil prices and Hong Kong equities taking the most damage, alongside currencies of economies that rely on Chinese demand to absorb their commodity exports, namely Australia and New Zealand,” Hadjikyriacos said.
Hong Kong’s Hang Seng Index HK:HSI closed down by 353.75 points, or 1.8%, for its worst day in almost a week, followed by lower finishes for most of Europe’s major stock indexes, according to Dow Jones Market Data.
Also curtailing risk appetite was a decision by Moody’s Investors Service late Monday to downgrade credit ratings on several small and midsize banks, while placing six larger institutions under review. Still, it was China’s economy that contributed to a more pessimistic macroeconomic backdrop overall.
All three major U.S. indexes DJIA SPX COMP were lower in New York afternoon trading, while 20- and 30-year Treasury yields BX:TMUBMUSD30Y fell 7 basis points each and led Tuesday’s decline in rates amid ongoing demand for U.S. government debt. The greenback advanced against all major currencies on Tuesday, with the ICE U.S. Dollar Index DXY up by 0.6% — a beneficiary of the view that “the U.S. economy is showing greater resiliency” than either Europe or Asia, according to Marc Chandler, chief market strategist at Bannockburn Global Forex.
“The data continued to disappoint on both the export and import side in China,” said Subadra Rajappa, the New York-based head of U.S. rates strategy for Société Générale. “The huge miss bodes poorly for growth in China and will have second-order effects in the U.S.”
“We are looking for a potential slowdown in the U.S. in upcoming quarters,” she said via phone on Tuesday. While the U.S. data seems relatively strong, investors have erred in “perhaps discounting the prospects of a slowdown in global growth.”