by Olivier d'Assier
Global Summary1:
Investor sentiment was mostly unchanged last week, except in the US and Global Developed markets where it worsened, reaching bearish levels. In China and Emerging markets, sentiment improved further, turning bullish in the former, thanks to better manufacturing PMI data for August and talks of a third stimulus package by the authorities. The global average ROOF ratio remains anchored around zero (0.08), indicating a lack of conviction in either direction on the part of investors. This indecisiveness stems from two unanswered questions: When will inflation be defeated? And at what cost to the economy? Investors are also slowly beginning to accept that monetary policy will remain restrictive for longer than previously thought.
For a detailed report on global markets, please visit the ROOF Highlights page.
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Asia ex-Japan
Investor sentiment rose during September from very negative at the end of August, to strongly positive as of last week. This improved sentiment, however, failed to lift markets and did not generate new inflows. Instead, what we saw was a rebalancing of portfolios as investors rotate out of risk-averse assets and into more risk-tolerant ones but without making additional purchases. Declining volatility also made risky assets look more attractive, or at least less speculative, and while lower volatility doesn’t improve your odds of success, it does soften the penalty for being wrong. In addition to the low(er) volatility, investors became more positive after a better-than expected August Manufacturing PMI report, possibly signaling that the economy may be bottoming out. The next PMI report is due out this Friday and will be key to maintaining risk-tolerance above risk-aversion levels (see bottom chart).
Australia
Investor sentiment declined from their bullish highs in August to a neutral mood as of last Friday, as investors began to acknowledge that the RBA will keep interest rates high for longer than previously thought. The decline in sentiment has made it impossible for the market to break new highs, as the balance between the demand and supply for risk returned to equilibrium. Going forward, sentiment among Australian investors will continue to be swayed by monetary policy as well as the fate of the global economy. Unlike in other major developed markets, volatility has moved both up and down throughout the year and has not been a key driver of increased risk appetite. As of last Friday, cumulative broad market return for the first 250 trading days of 2023 is just 1%, and volatility ended the week at 12.5%, right on the 12.4% average year-to-date. Look for both the Australian market and sentiment to remain range-bound in the near future, as investors take their cues from global markets.
China
Investor sentiment rose steadily in the last two weeks, to return to the bullish levels last seen in June and August, when the authorities announced new stimulus measures to try and prop-up the real estate market. This time, in addition to talks of more measures, sentiment rose on the back of better-than expected manufacturing PMI data for August, which could signal a bottoming-out of the domestic economy. The September PMI data is due to be released this coming weekend and will influence sentiment for the next few weeks, once investors return from the National Day and Golden Week holiday. Was the August data a one-off, or has the economy begun to recover from three consecutive years of underperformance? Three factors are helping create a support for the Chinese market right now. First the release of multiple stimulus measures by the authorities who seem focused on preventing a credit crisis in the property sector. Second, after three consecutive years of underperformance, Chinese equity valuations are relatively low. Third, the announcement by the China Reform Holdings Corp., a state asset manager, of the launch of a dedicated “development fund worth at least 100 billion yuan ($13.7 billion) to invest in strategic emerging industries”. There isn’t much the local authorities can do to influence the growth of global trade or foreign investor demand, but they can focus on ways to stabilize domestic demand and invest in local growth industries, to create success stories investors can invest in. Lastly, it remains to be seen if this coming holiday week will turn into a shopping and travel frenzy, indicating that consumers remain positive about their job prospects and have the confidence to spend. Retail data for October will not be released until late November, so it may be a while before investors get confirmation on this driver of the economy. In the meantime, the central bank remains accommodative, authorities supportive, and volatility is just below the long-term average, which should continue to support sentiment in October.
Japan
Investor sentiment remained unchanged at neutral for most of September, capping any further market gains from the weakening Yen. The Japanese market has been mostly a USD/JPY story this year, rising with the weakening currency. Fear of intervention by the BoJ above the 146 level has come and gone and the currency is now above 148 to the USD and the BoJ remains absent from currency markets. Sentiment was also temporarily hit by hints of higher interest rates by the central bank, but this was reversed last week, with talks of patience when it comes to ending the current quantitative easing policies. As of now, sentiment is neutral, which could cap any upside in the short term, but a passive central bank will continue to support the market and make Japanese equities attractive to foreign investors.
Charts display changes to investor sentiment over the past 180 days for each market
How to read these charts: The top charts show the ROOF ratio (investor sentiment) in green (left axis), against the cumulative returns of the underlying market in black (right axis). The horizontal red line at -0.5 (left axis) represents the frontier between a negative sentiment (-0.2 to -0.5) and a bearish one (<-0.5), and the horizontal blue line at +0.5 (left axis) represents the frontier between a positive sentiment (+0.2 to +0.5) and a bullish one (>+0.5). Around the horizontal grey line at 0.0 (left axis), sentiment can be considered neutral (-0.2 to +0.2).
The bottom charts show the levels of both risk tolerance (green line) and risk aversion (red line) in the market. These represent investors’ demand and supply for risk. When risk tolerance (green line) is higher than risk aversion (red line), there are more investors looking to buy risk assets then investors willing to sell them (at the current price), forcing risk-tolerant investors to offer a premium to entice more risk-averse counterparts to take the other side of their trade, which drives markets up. The reverse is true when risk aversion (red line) is higher than risk tolerance (green line). The net balance between risk tolerance and risk aversion levels is used to compute the ROOF ratio in the top charts, representing the sentiment of the average investor in the market.
The blue shaded zone between levels 3-4 for both indicators represents a reasonable balance between the supply and demand for risk in the market. Conversely, when both lines are outside of this blue zone, the large imbalance in the demand and supply for risk can lead to an overreaction to unexpected news or risk events.
For questions or comments about this data, please contact the Qontigo Applied Research team.
[1] For a detailed report on global markets, please visit the ROOF Highlights page.
