Fear and Greed

The two things most traders concede
That drive markets are fear and greed
So lately there’s fear
That trouble is near
But too, FOMO, bulls do still heed

Another day of waiting as the market sharpens its focus on the Trump-Xi meeting to take place on Saturday during the G20 meetings in Osaka, Japan. Yesterday saw extremely limited activity in equity markets in the US, albeit with a negative bias, and we have seen similar price action overnight. Data releases remain sparse (French Business Confidence fell to 102, but that was all there was), which means that investors and traders have time to become contemplative.

On that note, it is a truism that fear and greed are the two most powerful human emotions when discussing financial markets, and both have a history of forcing bad decisions. However, in the classic telling of the story, fear is when investors flee for safety (generally Treasuries, yen, the dollar and gold) while greed is apparent when equity markets rally, corporate credit spreads compress, and high yield bonds outperform everything. I guess we need to throw in EMG excitement as well.

But lately fear has become the descriptor of both bulls and bears, with bulls now driven by FOMO while bears have the old-fashioned sense of fear. The thing that has been remarkable about markets lately is that both types of fear are in full bloom! I challenge anyone to highlight another time when there was so much angst over the current situation while simultaneously there was so much willingness to add risk to portfolios. How can it be that both the safest and riskiest assets are in such demand?

While I am very interested in hearing opinions (please respond) I will offer my own view up front. Global monetary policy in the wake of the financial crisis in 2008-9 has completely altered both the macroeconomic framework as well as how financial markets respond to signals from the economy. The biggest change, in my view, has been the financialization of every major economy, especially the US, where corporate debt issuance has been utilized primarily for financial engineering (either share repurchases or M&A) with only a secondary concern over the development of new, productive assets. This has resulted in a much weaker growth impulse (weakening productivity) with the concurrent effect of having changed the coefficients on all the econometric models in use. It is the latter outcome that has led central banks to become completely incapable of enacting policies that achieve their stated goals. Their reaction functions are based on faulty equipment (models) and so will rarely, if ever, give the right answer. But they are so invested in the current process, the idea of changing it is too far outside the box to even be considered.

Anyway, on a quiet day, I would love to hear other views on the subject.

In the meantime, a look at the markets shows that nothing is going on. The dollar is slightly higher this morning, but then it was slightly lower yesterday. Equity markets are drifting aimlessly (Nikkei -0.5%, FTSE -0.1%, DAX flat, S&P futures -0.1%) as everyone holds their collective breath for Saturday’s Trump-Xi meeting, and haven assets continue to perform well (Treasuries -1bp, Bunds -1bp and within 1bp of historic lows). Well, it is not completely true that nothing is going on, there is one market that has been on fire: gold.

That ‘barbarous relic’ called gold
Has seen its demand rise threefold
To some it is clear
That risks are severe
Although stocks have yet to be sold

Gold ($1432, +1.0% and + 10% this year) has broken out to levels last seen in 2013, when it was on its way down from the historic run-up in the wake of the financial crisis. This is simply the latest evidence of the ongoing conundrum I highlighted above. But beyond this, it has been remarkably quiet. Later this morning we see Case-Shiller Home Price data (exp 2.6%) and New Home Sales (680K) and we hear from NY Fed President John Williams. Yesterday, Dallas Fed prez Kaplan explained that he was concerned over the current situation, but not yet ready to pull the trigger. However, my gut tells me he was one of the ‘dots’ in the plot calling for two cuts by the end of the year. We will see what Mr Williams has to say later.

There is no reason to think that we are going to break out of the doldrums today, or this week at all, as catalysts are few and far between. So look for another quiet day in all markets.

Good luck
Adf