By now investors can be forgiven for growing weary of every strategist and pundit pointing out that summer is normally a period of light trading and subdued volatility in global markets. It is true that summer vacation is an almost universal concept in the developed world but, with the advent of cell phones, tablets, laptops and other techy gadgets, no one is forced to remain out of the information loop but rather, intentionally choose to be so. Yes, many portfolio managers are on the beach; however blissful ignorance is just wishful thinking.
The present market risk narratives fall into two broad categories. There are the heavily anticipated prospects of tightening U.S. Federal Reserve policy and slowly rising rates and yields in the near and mid-term as well as, in the long-term, of a generational shift in the direction of global bond markets. There is near-universal consensus that this will happen. But the timing and trajectory are anything but clear. Also playing into macro concerns are military conflicts, natural catastrophes — and even the Ebola epidemic — present an array of variables that are possible to analyze but impossible to use as a base for concrete investment conclusions. Friday’s equities rebound in the U.S. has been complemented by a recovery in other global stock markets, but not by a corresponding move in bonds and currencies that would suggest a sincere return to risk-on.
Chinese economic data. Consumer and producer inflation index levels for July released in Beijing over the weekend show the cost of goods at the cash register rising 0.1 percent for the month. This leaves the year-over-year reading flat at 2.3 percent — still well below the 3.5 percent government target. At an increase of 3.6 percent versus July 2013, the politically sensitive food subindex, registered softer than the June reading despite runaway prices for pork, a national staple. Producers’ prices contracted in July on both a monthly and year-over-year basis. Separately, Ministry of Finance data for released overnight indicated a moderation of government spending on at the central and local levels.
Energy deal announced as earnings season continues. U.S. companies reporting second-quarter 2014 earnings today include Aramark, The Priceline Group, and Sysco. Houston–based oil-and-gas company Kinder Morgan announced a $44 billion buyout offer over the weekend that would see three related public entities, Kinder Morgan Energy Partners, Kinder Morgan Management and El Paso Pipeline Partners, consolidated into a single company. The proposed stock and cash transactions would create a combined enterprise valued at roughly $140 billion and constitute the second-largest U.S. energy sector merger.
Geopolitical risks continue to weigh on investor sentiment. While a ceasefire in Gaza and a lull in Russian troop drills on its border with Ukraine have helped abate fear somewhat, the situation in Iraq continued to deteriorate over the weekend as the U.S. withdrew support for the government led by Nouri al-Maliki.
Correlating global equity risk. In a note released Friday, John Kosar, director of research at Schaumburg, Illinois–based financial information services provider Asbury Reseach urged caution that a correction in U.S. equities may not be complete. He noted that the correlation of short-term price fluctuations between the German DAX index and S&P 500 has remained strongly positive in recent weeks. Kosar argues that such a strong relationship indicates a reactive market psychology where bad news for any specific geography rapidly bleeds over into global markets.
Erdogan wins in Turkey. Turkish Prime Minister Recep Tayyip Erdogan, whose AK Parti first came to power in late 2002, won the country’s first-ever direct national election for the presidency with 52 percent of the vote, a sufficient margin to prevent run-off voting. Erdogan has recently vented frustration with both economic and defense partners including fellow NATO member the U.S., as the situation in Syria and Iraq, which border Turkey to the south, deteriorates and Russia strengthens its presence in the Black Sea, which runs along Turkey’s northern length.
Portfolio Perspective: Weakness Begets Weakness — Adam Grimes, Waverly Advisors
Weakness in Europe leads to more weakness as major indexes and member nations collapse into sharp downtrends. We no longer see significant support for Europe on any further rally leg, and see potential shorts in former leaders. Yes, it is possible we could see a sharp recovery and Europe sitting at a global rally forefront. But there is no strong statistical support for such a call. We have moved to an in-line expectation for Europe and market weights on most European Monetary Union member nations.
We do not see a clear global leader at this time. It is easy to be misled by short-term fluctuations. If we were to adjust expectations every time a region gave a small signal, we’d be running back and forth all over the globe every week. Obviously, this is no responsible way to manage capital and risk. This is a time to step back, let the market take shape and realize that sometimes, there simply is no clear statistical edge. The bottom line is that we are likely in a noisy period of consolidation. Rotation of leadership is to be expected — clarity is not to be expected.
Adam Grimes is the managing partner and chief investment officer of Pittsford, New York–based Waverly Advisors.