Over the past week, we have had numerous clients reach out to us about the news surrounding Evergrande, an embattled Chinese property developer on the brink of defaulting on roughly $300 billion of debt. Despite happening 13-years ago, the financial crisis is still fresh in everyone’s memory and fears that this could be a “Lehman Brothers” moment are being raised.
On September 15, 2008, Lehman Brothers filed for bankruptcy, sending global financial markets into one of the most chaotic periods in history. At Element Wealth, we do not see the risk of contagion from Evergrande being anywhere near this magnitude. In 2008, the bad mortgage debt that took down Lehman brothers had been exported across the U.S. and world. According to Federal Reserve Chairman, Jerome Powell, the Evergrande debt issues seem particular to China, and he does not see a parallel with the U.S. corporate sector. European Central Bank President Christine Lagarde has publicly stated that Europe’s direct exposure would be limited.
There are subtle signs of concern, emerging market credit default swaps jumped last week, and emerging market corporate spreads widened relative to U.S. high yield spreads. Credit default swaps are like insurance against a bond defaulting and a spread is the difference between the yield on one bond’s yield versus another. But with U.S. and European institutions having limited exposure we view this as primarily China-centric.
Overall debt levels in China and America are concerning. In the U.S., we have never fully deleveraged from the mid-2000s and China’s debt to GDP ratio has continued to swell. Thankfully, low interest rates and central bank actions have stabilized markets. We are currently in a seasonally weak period for stocks and considering the tear in the equity markets since the bottom in March of 2020, a correction should be expected if not welcomed.
Evergrande will likely be contained within China, although some minor impacts to the global markets should be expected. But we do not view this as the next “Lehman Brothers.” Looking forward we are more focused on equity valuations, inflation, interest rates, and the potential for increased volatility as we enter a mid-term election year. Historically, mid-term election years are the worst in the 4-year presidential cycle. However, any corrections are likely to be limited for the time being.
Email Public@MyElementWealth.com with any questions and we’ll be glad to respond.
Jeremy Nelson, Partner
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