Market volatility update

Market price action reflects several factors addressed below. The danger in the short term is that negative price momentum dominates any fundamentals, leading to outsized moves in equity and credit markets that, in turn, will threaten a change in the economic outlook. Under such a scenario some response from central banks cannot be ruled out.

Drivers of market turbulence include:

• Change in outlook on US and global economy coming from weaker data, especially softer non-farm payroll growth in the US and the rise in the unemployment rate. This has been expected for some time but the increase in the unemployment rate is now threatening to signal a potential recessionary period in the US.
• Disappointment that the Federal Reserve has not already cut interest rates, especially given that the ECB, the Swiss National Bank and the Bank of England have already eased in response to lower inflation.
• Political uncertainty in the US in the wake of Joe Biden’s withdrawal and narrowing of Donald Trump’s lead in opinion polls.
• Geopolitical tensions especially in the Middle East where a fully-fledged conflict between Israel and Iran cannot be ruled out.
• Profit taking in the equity of technology companies in the US, partly because of some disappointments over Q2 revenues and earnings, although they have generally remained strong. However, a broader economic slowdown and more cautiousness amongst corporates could hit investment spending on artificial intelligence, which has been a big driver of technology stock performance.
• Generally, S&P 500 earnings have been solid but not spectacular, leading perhaps to some reining in of expectations for coming quarters.
• Summer trading conditions and poor liquidity could be exacerbating market moves.
• Recent strengthening of the yen leading to covering of short positions, perhaps triggering sales of some higher carry assets.

What would help from here?

• Fed rate cut before the 18 September meeting or at least a strong signal about easing from Fed officials.
• Other central bank action.
• Reassessment of the economic data – the US is not in recession yet.
• Easing of Middle East tensions, with a ceasefire between Israel and Hamas.

Typically, we would look to central banks to restore market calm. It is not unusual for August to see this type of volatility. The underlying fundamentals for the global economy are fine, as recently expressed by the IMF. Even the weakening of the US labour market must be put in context – job openings rose recently, payroll growth is still positive, the unemployment increase may reflect temporary jobs.

However, short-term, uncertainties will drive risk-off positioning which should be to the benefit of government bonds, high quality credit and currencies like the Swiss franc and the yen.