There was a time when global top down macro themes would reset every one to two years giving asset managers time to structure their portfolios. These days investors are shifting gears faster than Formula 1 drivers with views moving violently from inflation to recession to deflation in a matter of weeks and taking their portfolios along for the ride as well. As economists and strategists have resorted to increasing their after work beer intake, day traders are thriving in this volatility, and news channels have even more subscribers as investors are desperate to get any insights whatsoever. The honest truth is, no one knows! No amount of tarot cards or magic eight balls will help any sane investor to make heads or tails of this market. Either one should seek solace in rap artist lyrics or buckle up and take a view based on one’s own facts coupled with fundamentals.
The start of 2016 saw one of the biggest macro unwinds in history as over leveraged positions like short Yen, long Dollar, short Commodities, short Euro, long Developed Market Equities (S&P 500 and Eurostoxx 600), all snapped a hundred and eighty degrees away from how investors and funds were positioned coming into this year. Ouch may not be the only four-letter word that comes to mind! Hedge funds are down 1.27% as of February 2016, year-to-date Assets Under Management (AUM) have declined by $20.1 billion. What does this mean? Risk management 101; they were forced to unwind their portfolios to help protect any previous gains. As the old adage goes on the trading floor, “cut risk today so you can live to face another day tomorrow.” At least that is how we were taught in the good ol’ days. But what this also means is that everything has been forced to move away from its fundamentals.
We all knew Emerging markets, especially China, was facing a slowdown as they moved to a consumer driven focus from an infrastructure one and policy makers battle how to cope with speculative property prices rising in tier 1 and 2 cities but falling in tier 3 and 4 cities. China is going through an adjustment period and its currency valuation is a huge issue. We have seen what Yuan devaluations can do to markets, e.g.: January’16. The devaluation may not be over but they need to be a tad bit subtle and less random. The fears of Emerging Market weakness spread to Developed Markets as softer data started hitting the tape. Investors were convinced US was no longer the growth engine, and everyone became the prophet of doom calling for a global recession. US and European equities retraced about 15% from their highs. Analyst estimates for S&P 500 Q1’16 fell by 8.4% in the first two months alone (from $29.13 to $26.69, source Factset) vs. average decline over the past ten years of 3.6%. As the last few economic prints showed the US economy to be resilient, markets have now recovered about 12% of those falls. Do investors suffer from bi-polar tendencies?
As evident from various central bank announcements over the last few weeks, accommodative monetary policy is here to stay for longer. They remain committed to expand their balance sheet by buying assets to stimulate growth and stoke inflation. Despite the surprisingly dovish Fed commentary last week, as US core inflation ticks higher and employment data improves, it is a matter of when not if they raise rates. But tomorrow is another day. Today liquidity continues to be the opiate of the investors.
