Why I’m giving ASX financials a wide berth during the market meltdown

The sharp sell-off in US equities has infected our market for a second day sending the S&P/ASX 200 (Index:^AXJO) (ASX:XJO) tumbling a further 2.8% to 5860 points in morning trade.

The top 200 market index is down 1.1% since the start of the year and I don’t think we’ve seen the bottom of this sell-off just yet.

The question is what stocks are most vulnerable if the pullback develops into a full-blown market correction, which is technically defined by a fall of between 10% to 20%.

I don’t think we will get quite there, but I won’t be surprised if we got pretty close to the 10% mark. This means investors will need to hang on tight for more stomach-churning volatility.

While it feels like the sell-off is indiscriminate as just about all sectors are taking a belting, some stocks are probably going to be more impacted by the global market discord than others in a protracted downtrend as this could impact on their earnings.

Just to be clear, the current market mayhem isn’t triggered by concerns about company earnings. If anything, corporate earnings are expected to be reasonably strong.

However, if the turn in market sentiment were to persist, some companies could start to feel an impact on their bottom-lines.

One company that comes to mind is investment bank Macquarie Group Ltd (ASX: MQG) as its earnings are reliant on investment markets.

Macquarie actually issued a profit upgrade today although that hasn’t provided it much protection from the market meltdown with its stock crashing 5.5% to $97.67 in early trade.

I don’t think this market sell-down will last long enough to have a negative impact on the bank, but it’s still something investors should keep an eye on, particularly if a sense of panic in the market starts to creep in.

So far though, global investors seem to be pretty calm and are taking the sell-off in their stride. Some traders have also told Bloomberg that the selling pressure is coming from “robots” (trading programs) and exchange traded funds (ETFs).

Another group that will suffer should this downturn turn into something more sinister is the banks.

While the Big Four are predominantly focused on domestic lending, an extended disruption in global financial markets could have a material impact on their businesses – particularly in the area of wholesale funding.

What’s more, a report by UK-based Absolute Strategy Research has warned that the Big Four – which includes Commonwealth Bank of Australia (ASX: CBA), Westpac Banking Corp (ASX: WBC), National Australia Bank Ltd. (ASX: NAB) and Australia and New Zealand Banking Group (ASX: ANZ) – pose a systemic threat to the global financial system.

This report that is carried in the Australian Financial Review today is urging investors to steer clear of banks in Australia, Canada and Sweden as their weight on global equities markets is four times larger than their share of the world economy.

Another stock that could also be feeling the earnings pinch from a protracted market downturn is global insurer QBE Insurance Group Ltd (ASX: QBE) as it is exposed to US Treasuries.

Depending on how their portfolio is weighted in terms of duration (i.e. short-dated vs. long-dated bonds), a sudden surge in bond yields could have a negative impact on their investment earnings.

But don’t let this market dip go to waste. As experts do not anticipate the market ruckus to have an impact on the real economy, this should be a good buying opportunity.

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Motley Fool contributor Brendon Lau owns shares of Australia & New Zealand Banking Group Limited, Macquarie Group Limited, National Australia Bank Limited, and Westpac Banking. The Motley Fool Australia owns shares of National Australia Bank Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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