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The Year of the Scapegoat

By Benjamin Shepherd on January 22, 2016

We’re not even a month into 2016 and it’s already been a miserable year for investors. Between plunging oil prices, a spike in terrorism and the U.K. once again considering an exit from the European Union have rattle markets the world over, with most of the major exchanges in or near correction territory.

China has been the biggest drag by far though, especially since its 6.9% GDP reading earlier this week is the lowest it’s been in 25 years and a far cry from the 12%+ back in 2010. But there are some positive signs out of China.

Notably, Chinese sales of luxury goods rose in last half of 2015, a surprisingly important metric when you consider nearly half of all Swiss watches are sold in China. Auto sales are also still strong in the country, up 7.3% last year with more than 21 million passenger cars sold, reaching a new all-time high. Car sales are expected to grow by 7.8% in 2016, helped along by a halving of the purchasing tax on small cars, as China attempts to address its pollution problem.

While overall GDP growth may be slowing, the nation’s service sector grew by 8.3% last year and now accounts for more than half of China’s economy. Consumption is also growing in the country, driving about two-thirds of last year’s growth as disposable incomes rose 7.8% last year.

All of this should sound at least vaguely familiar if you know anything about the U.S. economy. China certainly has its problems, not the least of which is too much government meddling in the economy, the markets and exchange rates. But it’s becoming a more mature economy, and that doesn’t mean China is on the verge of a hard economic crash.

In fact, China’s maturation can be good news for the U.S. and Europe. Makers of high-end and luxury goods have a growing market to sell to, and rising incomes also generally drive demand for better healthcare. Educational companies will also likely fare well thanks to the generally small family sizes in an academically-focused culture with higher disposable incomes. American and European automakers will also continue to get a boost from sales in China.

So while we’ve been hearing a lot about how slowing growth in China is playing a role in our own tanking markets so far this year, it really is a matter of perspective. While it would be nice if markets and economies didn’t upset the status quo, they’re evolutionary beings that grow and change like most things. But given all the positives occurring in China, I don’t think we’re on the brink of a Chinese-driven global recession.

Last year was the Year of the Goat in the Chinese zodiac, but given our current woes are  probably more a case of China catching the blame for a long overdue correction, 2016 may be the first Year of the Scapegoat.  Stock valuations across the developed world and particularly in the U.S. have also quite high by a number of metrics, whether you look at total market value-to-GDP (119% versus the average 82.5%), price-to-forward-earnings (16.8x vs. 15.5x) or the cyclically-adjusted-price-to-earnings (25.2x vs. 16.6x).

This recent correction is obviously a serious thing, causing a lot of consternation the world over. But rather than blaming China, let’s call it what is and treat it as an opportunity to pick up some great companies and increasingly better prices.

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