Walmart downgrading its sales forecasts certainly didn’t help lift sentiment, but the sharp moves were happening well before this story broke. Firstly, we know the market was on edge anyhow with the Volatility Index (the VIX) already well above the 200-day (and week) moving average, and Implied volatility in the bond market elevated, as it was in the forex market.
There have been concerns around Europe for some time, with France, Germany and Italy all downgrading their views on growth of late, while French government is at loggerheads with the European Commission about missing Stability Pact fiscal budget targets once again. Traders are becoming more concerned with Greece and the idea that the Greek government is looking to remove itself from its bailout lifeline. Yields on its ten-year moved up 85 basis points overnight to 7.85%; bear in mind this was at 5.52% in early September.
There have been concerns around Chinese growth and yesterday’s inflation numbers at 1.6% are clearly a concern. While this may be good for Chinese equities as the PBOC is going to continue using its Standing Lending Facility to pump liquidity into the markets, it does not put its economy in a strong light – a weaker CNY may well be on the cards, which could start the new phase of the currency wars.
The concern was the decline in US producer prices, retail sales and poor New York manufacturing leading to the idea that the US economy is importing global economic weakness.
Big moves in markets
The carnage started in European trade and really caught wind in the US, with every asset class being affected. The S&P 500 fell to 1820 (-3.1%), with the Volatility Index spiking to 31%, while the US ten-year treasury fell to 1.86%; the correlation between these assets was a near tick-for-tick. USD/JPY was selling off from a high of ¥107.50 during Asian trade and collapsed in-line with the other aforementioned assets to a low of ¥105.23, in turn causing an 8.5% increase in USD/JPY three-month implied options volatility. Then something changed.
It seems the market saw the moves as overdone, causing a swift reversal on what can only be described as breath taking volume. The US ten-year moved back to 2.13%; a 34 basis point intra-day move is not something you see every day! The S&P 500 closed at 1862, with the Dow Jones index closing at 16141, with the blue chip index trading in a lazy 458-point range. 63% of stocks fell on the day, which is fairly low given the volatility, while it could be seen as a positive that the Russell (the small cap index) actually closed higher. But the key question now given the massive volumes (with S&P 500 and Dow Jones volumes 66% and 88% above their 10-day average respectively and 3.81 million December ten-year treasury contracts traded) amid strong moves from the lows is, ‘was this a capitulation move’?
There was market scuttlebutt that a large fund (which had 75% weighting towards equities and 25% US bonds) had heavily reduced its allocation towards equities, which would explain the snap-back in US stocks to a degree. We also heard that a huge commodity fund (Hall Commodity Master Fund) was closing due to poor performance, which would have weighed on sentiment.
Asia looking set to see a sea of red. But will buyers move in?
We have to think therefore that price action in upcoming European and US trade will be key to see if calmer heads prevail. Asia is looking like it will react to the US leads and we are calling the ASX 200 to open down 1.3%, with Japan down 2.6%. BHP’s ADR for example suggests the miner will open 1.6% lower, certainly not assisted by iron ore down 1.1%; while CME copper is down 2.2% from the 4:00pm ASX cash close.
Data locally is on the light side, so this makes the Asian session really important. Over the last few sessions we have seen good buying in the local equity market after weaker opens, highlighting investors are seeing better value after a near 10% correction, with around 90% of stocks under their 50-day moving averages. Could we see the same again, with the bulls moving back in after a weaker open?
Good buying in Japan could give US futures a lift and suggest a higher open for Europe, which is currently looking flat. Despite the better buying in the last few hours we need to remember that sentiment is still deteriorating and there are still many questions that need answers. With that in mind, traders are asking what is the catalyst that will really drive markets higher?