Fear is back in the market.
Investors are worried about slower economic growth in China, a gloomier outlook for U.S. corporate profits and an end to easy money policies in the United States and Europe. They’re also fretting over country-specific troubles around the world – from economic mismanagement in Argentina to political instability in Turkey.
Those fears converged to start a two-day rout in global markets this week, capped by a 318-point drop in the Dow Jones industrial average Friday. It was the blue-chip index’s worst day since last June. The Dow plunged almost 500 points over the two-day stretch.
The Dow finished down 2 percent at 15,879 Friday. The Standard & Poor’s 500 index fell 38 points, or 2.1 percent, to 1,790. The Nasdaq composite fell 90 points, or 2.2 percent, to 4,128.
Small-company stocks fell even more than the rest of the market as investors shunned risk.
Despite the sell-off, U.S. stocks remain near all-time highs after surging 30 percent last year. The S&P 500 is 3 percent below its record high of 1,848 on Jan. 15.
U.S. stocks have not endured a correction – a drop of 10 percent or more over time – since October 2011.
The turbulence coincides with a global economic shift: China and other emerging market economies appear to be running into trouble just as the developed economies of the United States and Europe finally show signs of renewed strength nearly five years after the end of the Great Recession.
The trouble began Thursday after a January survey showed a drop in Chinese manufacturing activity. Days earlier, China reported that its economic growth last year matched 2012 for the slowest pace since 1999.
Slower growth in China is bad news for countries that supply oil, iron ore and other raw materials to the world’s second-biggest economy.
Here’s a look at the forces buffeting global financial markets:
The end of easy money: Since the global financial crisis hit in 2008, the Federal Reserve has flooded markets with cash to push interest rates lower and encourage U.S. businesses and consumers to borrow and spend. But last month, as signs of growing economic strength emerged in the U.S., the Fed cut back – reducing its monthly bond purchases to $75 billion from $85 billion. It also said that it expected to reduce the bond-buying further “in measured steps” at upcoming meetings.
The Fed meets again Tuesday and Wednesday. Many economists expect the central bank to cut the purchases again – perhaps to $65 billion a month.
The scaling back of the Fed’s easy money policies has hit some emerging markets hard.
When the Fed was pushing U.S. rates lower, emerging markets had seen an inflow of capital from investors seeking higher returns than they could get in the United States. Now investment is flowing back to America, hammering currencies in emerging markets.
China and global growth: Since the recession, the global economy has relied heavily on China and other emerging markets as the developed economies of the United States, Europe and Japan struggled.
But China’s economy is decelerating. It grew 7.7 percent in October-December 2013 from a year earlier, down from the previous quarter’s 7.8 percent growth.
Factory output, exports and investment all weakened. Thursday, the preliminary version of HSBC’s purchasing managers’ index of Chinese manufacturing fell to 49.6, the lowest reading since July’s 47.7. Anything below 50 signals a contraction.
China’s growth is still far stronger than the United States, Japan or Europe but is down from the double-digit rates of the previous decade.
Many economists are troubled less by the slower growth numbers than by China’s over-reliance on trade and investment instead of spending by its consumers.
China’s growth is slowing just as the world’s rich economies begin to gain momentum.
The 17 countries that use the euro currency appear to be recovering from a debt crisis that tipped them into a double-dip recession in late 2011.
In the United States, households have reduced crippling debt levels and are in better shape to start spending again.
Corporate profits: In the U.S., the outlook for corporate profits has already been weakening, and the turmoil in emerging-market currencies could make matters worse.