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The answer to "What's going to give the Fear Index a boost ?" was staring us in the face all along .... The threat of Thermonuclear War,...

August 11, 2017

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Stock markets may be all over the place, but foreign exchanges ..... not so much

April 5, 2018

 

ref :- TAIL RISK / "Becalmed state of forex contrasts with equities noise" , Washington Post, Markets and Investing

Another day , another twist for equities ..... The dominant market theme of 2018 has been the resurgence of volatility in stock markets, a new reality for investors and not a particularly pleasant one for many of them. Things have become a bit more complicated now that the policy of "Get long, and buy any dips" that so many embraced no longer seems like the guaranteed road to riches that it did just a few months ago.

Which is not to say that the bulls have headed for the hills .... there are plenty of articles doing the rounds pointing out how the last year of a long bull run is often the most profitable, and how the profits gained in that period are likely to outweigh losses incurred in the following twelve months even if you don't pick the top of the market to unload your positions (see Bloomberg). That's fine of course, provided that you're not just entering the market and that the "last year" wasn't the year to February. Those bulls will also be hoping that a strong corporate season (assuming that's what it turns out to be) doesn't get swamped by global events.

But where were we ? Oh yes .... volatility, and the new reality. Even in the last few trading days, we've seen equities  --  already undermined by a technology sector facing regulatory concerns (Facebook) and presidential attacks on monopolizing business models (Amazon) ***  --  reacting to the developing trade dispute / skirmish / conflict. First, alarm at the extensive retaliation proposed by China, who had been cautious in their responses up til now ; and then yesterday, a rally as less pessimistic views were aired amid suggestions that the stances adopted by both parties but yet to be enacted might be bargaining positions rather than the first steps in a descent into full-on trade conflict.

Not only a rally in share prices in fact, but just to confirm a slight easing of "risk-off" thinking, a fall in government bonds (yields higher), gold lower, and gentle weakening in everybody's favourite safe-haven, the Japanese Yen.

Who knows where this as all going ? And notwithstanding the gentle move in the Jap Yen, if you were only to look at broader foreign exchange markets you might be forgiven for thinking "who cares ?". In stark contrast to equities, over the last two weeks readings on the JP Morgan Chase FX Volatility Index have barely twitched. It was the same over the stock market hiatus in early February, and in essence has been the case since the start of 2017 according to Kit Juckes of Societe Generale. He puts it down to the fact that currencies are, in large part, fairly valued. That may indeed be the case, but in our experience and especially in the short-term, market sentiment can easily overcome arguments for what may or may not be fair value.

Still, if interest rate differential plays a major role in currency valuations (and it most definitely does, of course), perhaps the calmness in foreign exchange markets is not so hard to understand. The two times that volatility has really taken off in the last 15 months were in June when ECB boss Mario Draghi, in a rare misstep, unwittingly prompted some unwelcome talk of QE tapering ; and in January, when the markets got a little worked up (perhaps prematurely) by the prospect of monetary policy "normalisaton"  by the ECB and the Bank of Japan.

In general however, whilst release of data that differs from expectations will always prompt small, often intra-day moves in FX markets, basically stable inflation , economic data and labour patterns mean the likelihood of central banks springing a surprise in monetary policy is pretty small. Whipsawing equity prices are not enough to cause changes in central bank monetary policy, and therefore not something that FX markets have to follow too closely. Both things may change if something really big happens to equities, but we're a long way from that yet.

There are other explanations for the comparative lack of movement in currency markets : maybe FX traders are blessed with a particular wisdom that other professionals are lacking ? (Mmmm ..... you might need to show me another one). Okay then, what if they're the ones missing something ? (Not sure about that either). 

No, the lack of ructions in the interest rate market looks a reasonable explanation all right, although there's one more possibility that may be playing a part : they can see a trade war coming, but don't know what it's going to mean and don't know what to do about it. That sounds pretty plausible, too ......


*** Anyone else concerned about President Trump's attacks on Amazon and it's boss Jeff Bezos, the world's richest man ? If Mr Trump was only engaged in fighting monopolies and saving retailers, that would be fine. But Mr Bezos also owns the Wall St Journal, an organ highly critical of the president, and you can't help feeling that there's a different and personal agenda here. Lines are being crossed, and one even wonders if this is undemocratic. Mr Trump won't care though .... haven't you heard ? His approval ratings are up .....

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