Thursday, 19 July 2018

On Wednesday's mini "Flash Crash" in bonds

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Anthony Peters ponders what might have been afoot in the selloff.

Wednesday morning was all about Navinder Singh Sarao and his role in Wall Street’s “Flash Crash” but by the afternoon global bond markets were having their own. Quite what launched the short sell-off in in lower-risk assets is a matter of uncertainty.

UK traders reckoned it was the gambling lines now putting Miliboy’s Labour Party ahead of “call me Dave” and his Tories. Americans would have it that it was all a result of stronger than expected housing figures but the most probable cause has to be some invisible but inevitable sense going through European markets that once again a compromise will be found which lets the Greeks bat on with relative impunity. Yes, the putative cost of Greece “accidentally” defaulting itself out of the eurozone with all the unforeseeable consequences for the single currency remains too high for the powers that be to contemplate and markets are regaining some confidence that old Stavros is going to be thrown another life raft.

Whatever the cause, quality assets – and above all Treasuries, Gilts and Bunds – went into free-fall. The sell-off began around 1:30pm, London time which frequently marks the time of key US economic releases but Wednesday had nothing stated for that time-slot. There were some big earnings reports on Wall Street including Abbott Labs, Coke and Boeing which all beat forecasts but that was off-set by Mickey D’s missing. Irrespective, bonds began to fall and there was simply nobody pushing against the move.

Over the next 2½ hours, Treasury 10s rose from 1.88% to 1.96% and eventually peaked at 1.99% before finding buyers. Bund yields sold down from 0.09% to 0.17% and it can be honestly stated that, having come from a Monday intraday low of 0.06%, Bund yields have nearly tripled in three days. Gilts did similar but worse at they sold off from a morning level of 1.55% to close at 1.71%. At least, in percentage terms, the rout in Gilts wasn’t as fierce as that in Bunds where investors who bought on Monday saw two years of income on their investment wiped out by end of business on Wednesday.

As quality assets were on the rack, there can be no surprise that German equities also suffered badly with the DAX taking a 72 point hit while most of the peripherals, France included, did better on the day. By the close and for the first time this year, the CAC40 has overtaken the Dax in terms of performance. That said, there was no consistency in the price action but what was clear was that fundamentals went out of the window and traders simply jumped on the bandwagon in whatever direction it appeared to be travelling. This had little to do with healthy corrections or technical retracements; it strongly felt like a day, in terms of price action, of the blind leading the blind.

The argument for a simple “risk on” interpretation was, however, supported in the currency markets by the strong rebound in euro/Swiss which saw the single currency halt its slide back towards parity reversed sharply as it leapt from SFr1.0225 to SFr1.0400. I have tried hard to make sense of what happened on the day in order to bring about so many varied, sharp and unresisted moves but I can’t. Maybe it is that the big risk trade has been the “risk off” trade and that the time had come for a bit of introspection and to take some chips off the table. But please don’t try to tell me that it was Bill Gross’ sweeping pronouncement that the short Bund trade was the slam-dunk of a lifetime.

Chinese PMI

Meanwhile, overnight, the HSBC China Manufacturing PMI popped up on screens with a twelve month low reading of 49.2, clearly missing the forecast estimate of 49.6. Has the last of the fizz gone out of the Chinese economy? The weekend’s very decisive 1.0% cut in the bank’s Minimum Reserve Ratio along with the accompanying rhetoric of “We’ve got lots more left where that came from….” could have one believe that the authorities truly are worried that the economy is slipping away from it. Today’s release does little to dispel that impression, were one to have it.

The world is split into those who believe that the Beijing administration controls the economy and monetary policy well enough in order to turn it in any direction it chooses and those who think that it controls nothing other than the statistical output. I think I’d better not get too deeply into that one and leave it with the observation that perception is reality.

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