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U.S. Markets Won’t Necessarily Follow China Into The Abyss

By lunchtime today, U.S. stock markets were tanking. The Dow Jones Industrial Average had fallen by more than 500 points, or over 3 percent. Oil prices, too, were sharply lower — falling over 7 percent at one point, according to quotes for Brent Crude.

It was shaping up to be another bearish trading day in what has been an awful year to date, with U.S. stocks down 9 percent since the start of 2016. Then shortly after lunchtime, markets began to rebound: By closing, the Dow was down about 250 points and the NASDAQ ended the day down 0.1 percent.

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What triggered the mini market meltdown? And what’s behind the broader financial gyrations this year? The predominant explanation put forth by many observers is China — both its volatile markets and slowing economy. But a look at the data shows that the similar movements in Chinese and U.S. markets is a recent — and possibly temporary — phenomenon.

China’s economy is slowing, and investors and economists alike worry it might take down the U.S. economy with it. Just two days ago China reported — if you believe official numbers — that its GDP slowed to 6.9 percent, the worst full-year growth rate in a quarter-century. And perhaps most worrisome, Chinese stock markets are down over 40 percent (!) since last June.

In isolation, this wouldn’t be a big deal; but U.S. markets have recently tracked more closely with their Chinese counterparts. Over the last year, the rolling 90-day correlation between the S&P 500 index — a broad measure of the U.S. stock market1 — and China’s main stock index, the Shanghai Composite, is up from around 0.47 to 0.82. The correlation since the beginning of the year is around 0.90.

flowers-stocks-1

Seeing how these markets have recently moved together could give credence to those worried about China. But some historical perspective is needed. Over the last 15 years, U.S. markets have not moved in tandem with those in China. Since 2000, the rolling 90-day correlation looks like an EKG printout:

flowers-stocks-2

Starting in mid-2014, the relationship does appear to be more consistently positive. And on one hand, it makes sense that U.S. markets are becoming more responsive to developments in China — it has emerged as the world’s second-largest economy, after all. U.S. markets have, for the most part, been consistently positively correlated with those in Europe and Japan since 2000.

But, as my boss Nate Silver is fond of saying, the recent coupling of Chinese and U.S. markets could just be noise — and the current tumbles in the U.S. market just a temporary bout of market anxiety.

CORRECTION (Jan. 21, 12:11 p.m.): An earlier version of this story incorrectly described the direction of the NASDAQ index at the end of Wednesday. It ended the day down 0.1 percent, not in positive territory.

Footnotes

  1. Because of its larger and more diverse company sample, the S&P 500 is a more comprehensive stock index for the U.S. economy than either the Dow or NASDAQ.

Andrew Flowers writes about economics and sports for FiveThirtyEight.

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