Originally published by AxiTrader
Market Summary (7.47am)
There is not a lot to say this morning other than Europe and Asia caught the worst of the globe downdraft in stocks and uptick in volatility but that over the past few hours Wall Street has stabilised and rallied significantly.
As a result the VIX is back at 30, and locally SPI 200 traders are full of optimism for a better day ahead after yesterday’s 3.2% fall to 5,833. They’ve added 108 points as a result with the SPI trading at 5,872 as I write.
Of course the big falls in Europe of between 2.3% and 2.6% reflect the US market’s early weakness. Indeed the SPI’s overnight low was around the 5,725 region before this bounce.
Vol is vol. It doesn’t always need to be lower. So the best we can say this morning is that – with 15 minutes before the close in the US – we aren’t seeing another collapse. But volatility does cluster, so there is no guarantee that markets are out of the woods yet. Even with these stellar moves in the past hour, which has left the S&P 500 up 1.27%, while the Dow is up 2% and the Nasdaq 100 has gained 2.07%.
On forex markets the US dollar and the Japanese yen were big winners at one point when the stock market funk was at its height. But they have since lost some ground as US stocks and the sense of fear in markets has subsided a little. So euro is back near 1.24, and USD/JPY is back above 109. The Aussie too is well off its low of 0.7836 having rallied around half a cent to 0.7890. It’s a similar story for other pairs with pound back at 1.3950 while the kiwi is the big winner back above 73 cents against the US dollar. I know, weird that one isn’t it.
On commodity markets the most palpable reflection of the lack of fear has been the sell off in gold. The shiny stuff has lost around $12 an ounce an sits at $1326 this morning. Oil continues to drift with both Brent and WTI lower by 1.27% and 1.18% to $63.33 and $66.82 respectively. Copper is also down, off 0.87% at $3.18 a pound.
On the day ahead it is incredibly quiet on the data front. But that’s AFTER we get the API crude data at 8.30am this morning and then the New Zealand employment and wages data around 8.45am.
Here's What I Picked Up (with a little more detail and a few charts)
International
- Those pesky volatility sellers. There is an old saying that strategies which rely on picking pennies up in front of a roller coaster are always popular but always blow up. And that is exactly what we saw in the last hour or so of trade Monday anad then in the after hour twilight zone as short volatility funds were caught by the spike in the VIX and had to cover. You’re a genius until your not and when it takes just a day or two to unwind your whole strategy then you were never a genius – just a trader who didn’t understand risk.
- Anyway, the funk we saw as trade kicked off in Asia yesterday and as US futures were hammered lowered in our timezone was related to the unwinding of this volatility trade where funds and investors in those funds had been taking advantage of QE, low rates, and the resultant low volatility to earn income by selling vol. As vo, and the VIX, spiked they got squeezed. Nice and simple. If you are interested in reading more about what happened here are a couple of yarns:
- A primer suggesting why this would happen from 13D last year. Good backgrounder, here.
- JPM explaining the outflows the vol spike would cause - $100B, here.
- AND, Zero hedge where a quant explains the mechanics of what happened here.
- Bloomy on hedge funds who were vol sellers forced to puke – you can read that one here. Interestingly a little fund wrote to clients saying “The market became completely illiquid as volatility increased far in excess of the market movement…We were forced to liquidate throughout the night and morning”.
- Okay, enough about vol. Except to say this is just another example of Minsky wrote about stability sowing the seeds for instability. The key though to this move was something I write about all the time – NARRATIVE CHANGES. It’s why I write myself this note every day and look at so many markets and across asset classes. As a behavioural economics and finance guy I’m looking for changes in the narrative as a sign of changes in trader and investor behaviour and thus possible turning points. When they line up with technical signals, and my system, then all the better.
- I make that point to highlight that as January came to a close and as the press covered the fact that the first month of the year had essentially covered most forecasters expectations of gains in stocks for 2018 there was a shift in the rhetoric and warnings about the pace of the rally. It’s why folks are saying now “this is the correction we needed to have”. AND, even though the Vol junkies and the uptick in wages are getting the blame for the turn in stocks the reality is that BAML data shows their clients sold $3.6 billion in stocks last week, the highest since Brexit in June 2016.
- THE NARRATIVE HAD ALREADY CHANGED. The subsequent moves were thus possible because of the change. All we needed was an uptick in bonds and a bit of wages growth and then boom. But the key here, what’s different is that the narrative around stocks had changed because they moved so far and so fast. So what’s important now, for stocks and other markets, is the bounce. Does it really happen, is it sustainable? Or is the complacency around “this is the selloff we had to have” just an analog of the early days of the 1994 bond market sell off. That’s the key. The next few days and week are critical.
Australia
- Where to start? Disappointing retail sales, an unexpected deficit on trade, or an upbeatedly cautious RBA. Looking at the RBA first there are clear signs it is getting more optimistic in the outlook for the economy and growth. The forecast of 3% is – by its own measure – up at the economy’s speed limit, its potential. That would usually mean that there is a chance that running the economy hot, as this type of relative speed implies, would normally bring with it inflationary pressures. But the RBA was quick to deal with that in the Governor’s statement yesterday saying in the final paragraph that “further progress in reducing unemployment and having inflation return to target is expected, although this progress is likely to be gradual”. To put that in context the previous sentence said that “the low level of interest rates is continuing to support the Australian economy”. Translating from central bank speak, the Governor means things are looking up but he’s leaving rates on hold for a bit yet because he wants to see a sustainable shift in wages and inflation. When that comes we’ll get a tightening cycle. We must if the RBA is right about growth.
- Retail sales and trade now. You’ve probably read lots about them both by now. The key in the data is that net exports look set to subtract substantially from GDP and that underlying okay volumes in retail is serious price pressures from competition.
- It was an awful day on the ASX yesterday with the fall of 3.2% among the worst of developed markets over the past 24 hours. The price action on the SPI over the past 24 hours reflects both the carnage of yesterday and then European trade as well as the hope for a recovery that US markets moving off their lows has brought. 45 minutes ago things were still looking quite indecisive. But now with the S&P and Dow surging in this last hour of trade the SPI has perked up materially. Of course that tells you its fate is driven elsewhere. But things are looking a lot better now than they were an hour ago for the day ahead on the ASX. Here’s the SPI chart (at 7.28am) with a couple of Fib levels I’m watching.
Forex
- We have seen some big moves in forex rates over the past couple of days. But the order of magnitude of these moves has been nothing like I would have expected if stock markets were really dislocating or if forex traders - who by definition have to be macro – weren’t in agreement that the move in stocks was nothing more than the very “selloff we had to have” that stocks aficionados are saying it is. As I say above, we’ll see on that.
- But for forex traders that’s important. It’s important because the Aussie dollar didn’t fall out of bed. It held above the 50% retracement of the recent run from 75 cents overnight. Likewise the kiwi is by far and away the best performer over the past couple of days and is up half a percent in the past 24 hours. That is not something that happens when global markets are in a funk. Indeed the performance of the Aussie and kiwi, and the fact USD/JPY didn’t break down and through 108, is a sign that besides the mess in vol which intensified the stock selling active investors aren’t overly worried right now.
- And that lack of worry has helped pretty much everything climb off their lows against the US dollar while it has leaped off its lows against the yen. That’s left the US dollar in index terms at 89.63 up, but still below the 90 level, we’d need to see on a close basis to suggest the US dollar has truly bottomed. It is certainly gaining strength though and I do expect this emerging trend to gain traction.
- And while I have cut my short euro position a little my expectations is that further weakness is in train based on the charts. As you can see momentum has stalled, the MACD has turned lower. The recent uptrend has broken, the stochastics are trending down, and the latest candle is indecisive. A retest to the mid-Bolly Band at 1.2280 seems likely and if that breaks I’m looking for 1.2180/1.2200.
Commodities
- What do you get when stocks stop falling? If gold is any guide then it is the absence of fear and a $17 dollar fall in the price per ounce. That’s put gold back at $1322 this morning and back on track for a run to the $1316 38.2% retracement level I highlighted recently. I’m no longer on this run unfortunately because for me being short gold in a stock market funk was a dangerous trade for my portfolio. Perhaps I over think it. But I’m comfortable with it from a risk management point of view. Here’s the chart:
Have a great day's trading.