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Pronounced variability of sentiment (Daily analysis 27.12.2018)

27 Dec 2018 12:21|Marcin Lipka

Extremely strong fluctuations in shares and raw materials during the holiday season. Currencies remain relatively stable due to contradictory signals. The zloty reacts in a limited way to events abroad.

The most important macro data (CET - Central European Time). Surveys of macro data are based on information from Bloomberg unless noted otherwise.

  • A lack of macro data may noticeably impact the analyzed currency pairs.

US market with major problems

The pre-holiday week for US shares was the worst since 2011, according to Bloomberg's estimates. On the other hand, Christmas Eve falls were the deepest in the history of markets across the pond (almost 3%). The whole Q4 before holiday forecasted to be the weakest in a decade with a discount exceeding 20% in the case of the main index S&P 500.

The sentiment was completely reversed on Wednesday, when, unlike closed markets in Europe, trade in the USA took place normally. The shares rose by about 5% yesterday, which has been the best day for a decade. However, the optimism seems to be very fragile, as around midday futures for S&P 500 loose about 1.5-2% of the value.

Even more pronounced movements were observed on the oil market. On Christmas Eve it depreciated by 6%, while on 26th December it increased by more than 8%. Quotations of this raw material have recently been strongly linked to the equity market, as investors expect that the economic situation (i.e. demand for fuels) will be the main factor creating prices on crude oil. When shares depreciate, the valuation of WTI or Brent also falls. However, why we observe such giant volatility on the world's leading markets, which are usually much more stable than emerging markets?

It seems that the market reacts very strongly to non-economic factors. In this case, it is mainly a debate about the Federal Reserve monetary policy. At the beginning of the week, there were many media reports about the possibility of dismissal of the Fed Chairman, Jerome Powell. Sentiments were further heated by statements by President Trump in the social media, who clearly expressed disapproval of further interest rate increases by the FOMC.

The rebound was generated by a set of declarations from the White House (including statements by Kevin Hassett, head of the Council of Economic Advisors) that Jerome Powell's position is safe. The market also "digested" weekend reports of talks between Treasury Secretary Steven Mnuchin and the heads of leading commercial banks in the US, which was perceived as an action exceeding the scale of the threat in the current situation and reinforcing concerns about the stability of the White House's economic policy.

Assuming that President Trump's attempt to influence the monetary policy of the Fed fails, the market will simply have to face a cyclical economic slowdown. A more hawkish FOMC policy may simply speed up the process, but the growth of US companies' profits in the last quarters at 25% year-on-year (Bloomberg data) is unlikely to happen again. As a result, the market has to get used to weaker results and part of the last sell-off is the effect of these predictions. If not for the expectations concerning the worse economic situation, reactions on the markets were much weaker, even taking into account the clear attempt by the executive authorities to influence the activities of the central bank.

The violence of change is also intensified by the fact that an increasing part of trading in shares is automated or passive (following the market). The Wall Street Journal in its analysis "Behind the Market Swoon: The Herdlike Behavior of Computerized Trading" estimates that up to 85% of trading is automated and results only from technical (e.g. algorithmic trading, passive strategies) and not fundamental factors. Decreasing the human factor's share in such moments increases the violence of movements, although in the past it was usually the nervousness of traders' behaviour that caused sudden changes in the market. Ultimately, the uncertain economic situation and technical issues support extremely violent mood fluctuations.

Main currencies together with zloty are stable

The influence of events on the equity or raw materials market has a limited impact on currencies. The dollar depreciates with declines in markets and decreases in Treasury bond yields. When there is a rebound on the trading floors, the dollar's quotations increase. In general, these changes are insignificant. Movements on the main emerging market currencies, including the zloty, are also small.

The weaker dollar with strong declines in the market reduces pressure on emerging market currencies. Lower oil quotations also limit the movements of currencies of countries sensitive to oil imports (e.g. India). As a result, it seems that over the next few days the Polish currency should remain relatively stable and slightly deviate from the levels observed during post-Holiday trading.

27 Dec 2018 12:21|Marcin Lipka

This commentary is not a recommendation within the meaning of Regulation of the Minister of Finance of 19 October 2005. It has been prepared for information purposes only and should not serve as a basis for making any investment decisions. Neither the author nor the publisher can be held liable for investment decisions made on the basis of information contained in this commentary. Copying or duplicating this report without acknowledgement of the source is prohibited.

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