If this market turmoil forces a US rate cut, the outlook will truly be grim

Janet Yellen

This time last month stock markets were starting an end-of-year rally, cheerfully regarding the US Federal Reserve’s small increase in interest rates as evidence of the underlying strength of the global economy. Now, says William White, former chief economist of the Bank for International Settlements, the situation is as bad as in 2007, the onset of the banking crash.

The FTSE 100 has lost 9% of its value since the turn of the year. The yield on 10-year US Treasuries – a harder gauge of risk-aversion – has fallen to just 2%, even as inflation appears in the US. What has happened to turn financial markets on a sixpence?

On the face of it, not much. The price of oil has fallen further, but aren’t low oil prices meant to lubricate spending and investment, at least in the countries that import the stuff? Growth in China in 2015 slowed to 6.9%, the weakest for a quarter of a century, but nobody thought the old pace could be sustained. And, anyway, isn’t it good news that China has stopped building motorways to nowhere and is directing its economy towards consumption?

The extra ingredient may be one they were fretting about in Davos on Wednesday – liquidity. The supposed titans were not referring to their next champagne refill, but to the idea that financial markets aren’t as deep and free-flowing as they used to be. Blame the post-crisis regulations that restrict what banks and insurers can hold as core capital, and how much backing they need to make two-way markets in assets. Or blame investors for throwing silly sums into emerging markets to escape ultra-low interest rates in the west. The outcome may be the same: markets can swing violently when everybody rushes for the same exit.

Min Zhu, deputy director of the International Monetary Fund, put it this way: “The key issue is that liquidity could drop dramatically, and that scares everyone. If everybody is moving together we don’t have any liquidity at all. We have to be ready to act very fast.”

It’s far from clear what such action would be. But one assumes a first port of call would be a postponement of further rises in US interest rates. If the panic intensifies, it may come to that. But the moral would be alarming. It would mean that the global economy has merely been pumped up by years of easy credit, and is still so fragile that it can’t handle a minuscule adjustment in US interest rates that the Fed signalled for two years in advance. That would be a proper reason to worry. Unfortunately, it looks increasingly like the true position.

Can you be sure of Shell?

Still, at least someone is cheerful. He is Ben van Beurden, chief executive of Shell, who says he is “pleased” with the company’s performance in 2015, despite warning of a slide of 50% in profits in the final quarter. Van Beurden is getting ready to toast the £33bn takeover of BG Group. “The completion of the BG transaction, which we are expecting in a matter of weeks, will mark the start of a new chapter in Shell, to rejuvenate the company, and improve shareholder returns,” he says.

If you share his optimism, and think the spectacular decline in the oil price must reverse sooner rather than later, there’s rarely been a better time to buy a slice of Shell. At £12.77 – half the level in mid-2014 – the shares now offer an astonishing dividend yield of 10%. Yes, this the same Shell that famously hasn’t cut its dividend in decades.

What’s more, Shell keeps telling us it is committed to its current dividend for the next two years, and did so again on Wednesday. It said dividends for 2015 will be $1.88 a share for 2015 – currently equivalent to £1.32 – and at least the same again for 2016, assuming the BG deal gets the nod from shareholders next week.

Is it really plausible, though, that Shell can maintain such a payout? The company can hack at its capital spending budgets – on Wednesday it confirmed investment for the combined Shell/BG group will be $33bn this year, a reduction of 45% from peak levels in 2013 – but there are limits to how far oil companies can cut spending without damaging their ability to produce. With BG on board, the dividend bill will be $15bn a year, surely an unaffordable luxury if the oil price does not rebound to, say, $60 within 18 months or so.

That leaves some time to wait and see, but it’s not only van Beurden’s future that is riding on the dividend. Shell, even before adding BG, accounts for 10% of the dividends paid by UK-listed companies. A few UK pension funds will require rejuvenation if the oil price doesn’t rebound.

HSBC’s HQ hiccup

Oh dear, HSBC still can’t decide when it will make a decision about where it wants to locate its headquarters – in London, Hong Kong, or somewhere else. White smoke had been promised from the boardroom by the end of last year; then a delay was signalled in November. Now, says chief executive Stuart Gulliver, next month’s full-year figures will include “an update,” which is not necessarily the same as a decision. What is HSBC waiting for? Evidence that Chinese financial regulators know how to run a stock market? You may be waiting a while.

Powered by Guardian.co.ukThis article was written by Nils Pratley, for theguardian.com on Wednesday 20th January 2016 19.59 Europe/Londonguardian.co.uk © Guardian News and Media Limited 2010


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