The end of the world as we know it has not taken place and after the sharp sell-off of risk assets in the US on Tuesday and in large parts of the rest of the world on Wednesday the great follow-through failed to emerge.
The Dow tried to sell off in early trade but then spent the rest of the session creeping back up. After a short foray into positive territory, it closed slightly lower at 20,661.30 points, a decline of a mere 6.71 pts. The three big losers on Tuesday, Goldman Sachs, Caterpillar and JP Morgan, ended up slightly down, absolutely unchanged and slightly up, respectively. The S&P 500 gained 4.43 points or 0.19% and the Nasdaq 27.82 points or 0.48%. Make of that what you will but the panic-stricken stock market crash that many had seen beginning on Tuesday has not followed … yet.
News was made when Brent crude dropped below US$50 per barrel in mid-afternoon trading but having looked over the edge it rapidly pulled back from the brink, leapt up to nearly US$51/bbl only to break back above that level in early Asia trading. At the time of writing it is trading tightly either side. The dollar has also regained composure at ¥111.25 while gold’s assault on US$ 1,250/oz is stalling. Without powerful leveraged players pushing the markets around and with the continued absence of alternative asset classes promising income-conscious long-only investors “money-for-nothing” returns, it’s hard to see where sustained follow-through selling should be coming from.
Looking into my book of thread-bare City bon-mots, I find “the path to hell is paved with positive carry”. It’s really a bond market phrase and anybody who has seen his or her trading book taken to the wood-shed by sharp moves will know what it feels like to console oneself that “…at least I’ve got the carry…” but for the first time I heard it used yesterday in the context of equity prices. Interestingly, the VIX index continued to rise, closing at 12.81 on a day on which the S&P went up and not down. Hedging against down-side moves has been a pretty expensive and fairly futile exercise for the past few months and players would be advised to now watch this particular index more closely.
Without leveraged players pushing things around, we’ll be stuck in a sort of purgatory where discomfort with valuations will still not lead to a major correction so one will have to look for stronger indicators. The most important of these will be a rise in option-implied volatility. Currently implied vol on the Dow is 11.76 and on the S&P 11.78, both still remarkably low and not in any way reflecting any nefarious activity or impending apocalyptic collapse.
RUDE HEALTH
That said, worries about the ability of the Trump administration to focus on anything other than blaming everybody else for everything they have failed to do themselves are seriously taking root. There is no question that Obamacare doesn’t entirely work the way it was intended but it is, without a doubt, better than what was there before. For a country that spends 14% of GDP on healthcare, the lack of universal cover remains shameful. The frictional waste in the US system makes even our leaden-footed European systems look like nimble ballet dancers. The risk, however, of spending tens of billions of dollars replacing one set of problems with another doesn’t appeal to all of those representatives and senators who are up for election towards the end of next year. As one Republican put it in an interview: “I get sent here by the people of my area, not by the president”. The GOP might have a triple lock on Washington but anybody who thought that would imply that anything the Donald were to propose would sail through Congress without touching the sides has a very poor understanding of how DC works.
Markets are right to discount some of the premium they have added in anticipation of the big infrastructure spend but they should also guard themselves from underestimating the power of momentum created when Joe SixPack spits in his hands and gets down to work. Going short the Trump Jump without other evidence is and will remain a risky business.
CAR POOL
Meanwhile the mighty house of VW is back in the bond markets. This will be its first foray into the global capital markets since its emissions cheating scandal with a four-tranche fixed and floating offering. They are looking for a minimum of €4bn in the two-year, four-year, 6.5-year and 10-year maturities and I suspect the deal will fly off the shelf. Some readers might remember that when the crisis began, and when Glencore was in the dumps as well, I suggested that one buys VW bonds while avoiding the stock and buys Glencore stock while avoiding the bonds. I think that was a pretty good call as VW shares have only marginally improved while Glencore stock has tripled in value.
If I had money to invest in VW exposure, I’d still take bonds over stock although I feel a feeding frenzy coming on and some pretty ritzy pricing when all is said and done. Initial price talk is plus 45bp, plus 60bp, plus 95bp and plus 130bp, respectively. Let’s see what the final pricing brings although I’ll be surprised if any of those numbers or even anything close to them is seen again. Mahlzeit!
WATERLOO SUNSET
Finally, a word about London.
My heart goes out the individuals and the families of all those who either lost their lives or were hurt in the senseless events which befell Westminster yesterday. My congratulations go to the men and women of the police and emergency services who reacted with the speed and efficiency one can only dream of and I now appeal to the media not to hype the events to the fringes of ridicule. My special thoughts, however, are reserved not only for the family of PC Keith Palmer who gave up his life in the line of duty but to the French school children who were caught up in the drama. After all the hate and violence that has befallen their country, I feel particularly sad that they have had to face the same in ours. Je vous embrasse, mes enfants.