by Olivier d'Assier
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Potential triggers for sentiment-driven market moves this week1:
- US: Jackson Hole economic symposium and several Fed governors’ speeches. Earnings from Nvidia, Lowe’s, BJ’s Wholesale Club, and Peloton.
- Europe: ECB’s Lagarde speech at Jackson Hole (Saturday), and Eurozone PMI data.
- APAC: Details of China’s planned stimulus package, including interest rate decision and fiscal spending measures.
- Global: Speeches by the heads of major central banks at Jackson Hole, as well as China’s stimulus program, will dominate investors’ attention this week.
Insights from last week’s changes in investor sentiment:
Investor sentiment remains on the defensive in all markets we track, except two: In Australia, where the RBA’s decision not to raise interest rates two weeks ago has raised hopes that the central bank might be all but done with rate hikes in that market. And in China, where hopes have once again been raised that a (credible) large and much-needed stimulus package will be unveiled this week. Elsewhere, sentiment and markets have been busy resolving their July divergence through a bit of give and take from both sides so far, in August. The only exception is the US market where sentiment is refusing to do its part and expects markets to close the gap by themselves.
With the Q2 2023 earnings reporting season now behind us, company-specific news will be replaced by (mostly predictable) macroeconomic news, (less predictable) regulatory action/inaction, (somewhat unpredictable) political and geopolitical news, and potentially (more) extreme weather events, as the main drivers of investor sentiment over the next two months. For this week, the two biggest (known) triggers for investors will be details of a monetary and fiscal stimulus in China, and further insights into monetary policy in the US and Europe from the Jackson Hole symposium. If both events turn out to be uneventful, investors can turn to the US political reality show ‘Indictments’ (popcorn not included).
China: Investors classify stimulus packages into three types: the good, the bad, and the unlikely. The ‘good’ involves a combination of massive quantitative easing and fiscal stimulus. The ‘bad’ involves a slow political and legislative process aimed at cutting back some red tape to supposedly right the wrongs of past regulatory overreach. While the ‘unlikely’ involves an attempt to surgically remove the most visible symptom (a.k.a. property companies) of an economic/financial crisis by using a blunt instrument such as a bailout (a.k.a. nationalization). This is turning out to be one of those ‘fool-me-once-shame-on-you-fool-me-twice-shame-on-me’ stories for Chinese investors. They have twice been fooled into raising their hopes for a ‘good’ bailout and have so far gotten nothing but the ’unlikely’ type. This week, China’s regulators will once again try to deliver a credible stimulus package but are being hampered by precedent.
Jackson Hole: Those who set out to be fundamental investors, but currently can’t confidently forecast the path of the economy, or the direction of interest rates, remain risk-averse and on the sideline. For the risk-tolerant crowd, the pivot thesis, like a family legend passed down from generations, still sounds too good to verify. But if the pivot thesis looks like a half worked-out theory turned into a fully worked-out investment plan, the dogma under which it was created (namely, that recession will force the hands of the Fed and the ECB), has all but been removed by a repeatedly resilient economy – making the Pivot thesis, like most slogans, easy to sprout but hard to put a finger on. Meanwhile, investors’ position on regulators’ response to inflation has gone from “Do something!” in 2021 to “Quit it!” in 2023. Will Jerome Powell and Christine Lagarde heed the call this week?
Japan: The rally in Japanese equities has in large part been based on the weakening Yen. Recently, however, as the USD-JPY rate crossed the 145 threshold, Japanese investors sentiment has been depressed by expectations of a currency intervention by the Bank of Japan. Further declines in sentiment this past week reflect the uncertainty about the BoJ’s infrequent and seemingly random intervention decisions which have made them less of a deterrent to currency speculators and more of a suburban legend.
Climate Change (not a hoax): Extreme weather events are becoming more and more frequent and their consequences more and more economically severe. It may be time to have a serious conversation about the economy’s interdependence on an infrastructure built back when climate change was thought to only happen twice a year, spring, and fall, instead of all the time. Extreme weather events usually come without warning and force an immediate reaction from investors. The message the ROOF Scores are trying to tell, do tell, have told, and will keep telling – is that sentiment matters. And when combined with the element of surprise from unexpected events, it matters a great deal.
Changes to investor sentiment over the past 180 days for the markets we follow:
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.
Jump to a specific market
Asia ex-Japan:
Australia:
China:
Developed markets:
Developed markets ex-US:
Emerging markets:
Europe:
Japan:
UK:
US:
1 If sentiment is bearish/bullish, a negative/positive surprise on these data releases could trigger an overreaction.
