Stock Markets: Investors flee to safety amid Chinese market sell-off

  • Pound Sterling (GBP) comes under pressure as investors rush to the safety of treasuries and risk-off assets
  • Chinese market sell-off triggers a resurgence in US dollar (USD) demand
  • Investors should be taking advantage of emerging markets as these regions represent most of the world’s economic activity
  • Investing in ethical funds could become more popular over the coming years

According to recent data, more investors are betting on pound Sterling (GBP) falling in currency markets than gaining for the first time since December 2019.

The Commodities Futures Trading Commission (CFTC) – which provides a realistic snapshot of investor positioning – revealed that net bets against the British pound (GBP) had surpassed net gains.

The shift in positioning on GBP has been triggered by concerns that the coronavirus pandemic may leave long term scarring on the UK economy and other advanced economies.

DBS FX Strategist Philip Wee said: “Speculators turned net short GBP for the first time in more than six months, dragging the British pound to US dollar (GBP/USD) exchange rate down from USD 1.42 in early June to USD 1.37 in mid-July.”

GBP/USD fell sharply lower last week partly due to disappointing UK economic data and a global stock market sell-off linked to a spike in international COVID cases. The move also suggests that the British pound (GBP) remains sensitive to broader trends in risk sentiment.

The UK’s deteriorating COVID situation has also triggered a so-called “pingdemic” after more than 600,000 people received notifications from the NHS Test and Trace app advising them to self-isolate.

Although Britain’s infection rate appears to be following a downward trajectory this week, the news has negatively impacted business and consumer confidence.

UK supermarkets, transport services and other critical sectors of the economy have also reported delays and staff shortages due to the high number of people in isolation.

Question marks over the recovery narrative accelerated in tandem with rising COVID-19 cases, causing many investors to move net short of GBP.

However, investors could change their stance on pound Sterling (GBP) if the UK’s infection rate continues to decline, as this could eliminate headwinds to future appreciation.

Foreign Exchange Currency Risk

Currency positioning is often viewed as counterproductive

Analysts and traders often view positioning data as an illogical signal for a currency’s outlook as countertrends tend to emerge when the FX market is overly invested in a position.

Net GBP positions have been relatively positive for 2021, with speculators increasing their bullish positions as the prospect of negative interest rates faded and Britain’s vaccination programme steamed ahead of other nations.

However, the popularity of the trade was one of the most significant headwinds to GBP. Now that these headwinds have been removed and positioning is no longer seen as a barrier, the UK currency could find itself well supported in the coming months.

Investors are most likely refraining from making any significant moves on GBP and other currencies ahead of the US Federal Reserve (Fed) interest rate decision on Wednesday.

Although the Fed has discussed tapering policy, rising COVID cases has given way to uncertainty, which has injected some volatility into financial markets.

The United States’ three major averages are all trading in red territory on Tuesday after clinching record highs on the first day of the new trading week ahead of quarterly earnings from US tech giants.

At the time of writing, the S&P 500 is trading 0.44% lower at 4,402.94, while the tech-heavy Nasdaq Composite has slumped by 1.32% to 14,645.17, and the Dow Jones Industrial Average is 0.45% lower at 34,987.84.

Fluctuating oil prices have also renewed demand for the safe-haven greenback, with crude oil supply set to be tight for the remainder of the year.

After staging a mid-week recovery last week, the British pound to US dollar (GBP/USD) exchange rate is trading flat at USD 1.3825 on Tuesday, with some investors going a step further to say that GBP/USD is looking cheap.

Any upside potential in GBP/USD has also been tempered by a Chinese stock market sell-off, with regulatory moves against technology stocks in China and a spike in Delta caseloads across Asia, sending Chinese shares lower.

China stock market exchange / Shanghai stock market analysis forex indicator of changes graph. Stock markets decline concept

Chinese stock market sell-off spooks markets

Market analysts have said that the decline in Chinese shares has spilt over into the global investment environment and spread fears among foreign investors.

China’s FTSE A50 Index plummeted by 6% on Tuesday alone, extending Monday’s 4% decline following a fallout over China’s regulatory crunch.

Shares in tech giant Tencent plunged by 10% today after nosediving by 8% on Monday. Investors fear that pressures rippling through China’s tech sector could become a global issue due to the risks associated with profit and loss.

Cryptocurrency shares have also declined after surging toward the end of last week, fuelled by a Blockchain Product Lead and Digital Currency job posting issued by the tech giant Amazon, which plans to accept Bitcoin payments before launching its own cryptocurrency.

With the global stock market in the red, investors have had to write down exposure for Chinese investments, which has dampened risk appetite and driven investors to the safety of US treasuries, the US dollar (USD), Japanese yen (JPY) and Swiss franc (CHF).

Although pound Sterling (GBP) is trading lower, the foreign exchange (FX) market’s biggest losers are the Australian, New Zealand and Canadian dollars, all of which are trading more than 0.2% lower against the greenback.

Analysis from JP Morgan has also revealed that weakness in the Chinese sector has trickled down into emerging market returns. Chinese stocks that had suffered the sharpest losses account for 40% of the MSCI Emerging Markets Index.

However, Bestinvest Managing Director Jason Hollands believes that investors should be taking advantage of emerging markets and consider investing in this market as most of the world’s economic activity occurs in this region.

Should investors be investing in emerging markets?

According to the latest research, only 11% of UK consumers are invested in emerging markets, despite products and services in developing countries being fundamental to our everyday lives.

Research from Templeton Emerging Markets Investment Trust (TEMIT) found that 93% of adults use products manufactured in emerging market countries. However, when asked whether they would invest in an emerging market, 52% of investors said they were hesitant, and 41% ruled out the idea.

Meanwhile, 49% of survey respondents cited concerns over environmental, social and governance (ESG) issues across these regions.

The survey also showed that investors were reluctant to invest in emerging market countries due to negative preconceptions about labour methods, corruption, concerns about regulation, and workers’ treatment.

However, Templeton said that none of the participants could explain why they have these negative perceptions.

The survey found that investors that were open to investing in emerging markets belonged to younger generations such as Gen Z and Millennials, albeit this demographic has still failed to take advantage of these developing economies.

For example, China – which is a world leader in clean energy, producing more than 70% of the world’s solar panels, 50% of electric vehicles and 33% of all wind power – is poised for substantial growth in the clean energy sector due to the country’s decarbonisation plans.

Given that there has been a growing interest in climate change, with countries looking to move to net-zero emissions over the next ten to twenty years, investing in ethical funds in developing markets could result in more profitable investments.

With ethical funds expected to increase in popularity over the coming years, failure to act now increases the risk of exposure to less profitable investments or an oversaturated stock market.

Recent data has shown that ethical funds have outperformed non-ethical funds over the past 12 months, which makes ethical investments attractive to investors when combined with concerns over the global footprint.

Finance expert Rachel Springall noted that ethical funds have outperformed non-ethical funds in 13 of 23 sectors over the past 12 months and offered an average return of 19.87% compared to the 17.89% return from non-ethical funds.

Ms Springall added: “The assumption that choosing an ethical fund can mean a sacrifice in return versus non-ethical funds is untrue and has been so for many years.”

“If we travel back to 2020, overall, the non-ethical sector returned a loss of 1.46% and ethical returned a profit of 4.29% over one year.”

Although we cannot use past performance to guarantee future growth, recent data on the profitability of ethical funds is encouraging.

Anyone holding cash now and looking to generate income may also want to invest in property, which has always been a popular option, due to long-term capital appreciation.

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