Authored by Richard Breslow via Bloomberg,
On the face of it, financial markets are having an upbeat day. You don’t, and shouldn’t, have to believe that this signals the end of the financial challenges that the global economy still faces and yet welcome it. As long as it doesn’t race too far, too fast. Traders inevitably sacrifice location when they see something on the move and we all know what happens after that.
This shouldn’t be a moment when the primary motivation to trade is worry about missing out. Nevertheless, equity markets are up. The dollar down. Emerging markets have caught a bid and bond yields look a little closer to what would seem to jive with whatever we take to be current fundamentals. That’s not a bad thing to wake up to on a Friday morning at the end of a bleak week.
Will the pretty picture last?
Anyone who tells you the answer to that question is just guessing. It’s indisputable, however, that what the monetary and fiscal policy makers have just done is important and positive. Even better that none of them are declaring victory and they remain vigilant. At least we all know the answer to the question that always gets posed, “What keeps you up at night?” But don’t for a minute lose sight of the fact that the immediate future of the economy, and therefore what we must base our forecasts upon, is dictated by news we don’t, as yet, have any control over, or proper handle on.
However, if the recent policy actions can help ensure that the very functioning of markets can be put back on some familiar and stable footing, the way we respond to incoming news can work its way back to something we can claim to understand. And volatility will settle down over time. While painful, this will be helped, slowly, as some of the most extreme excesses of over leveraged and imprudent positioning is reduced. Which is a nice way of saying, stopped out.
At this point, the worst thing that can happen is that investors are encouraged, forced, or on their own, rush back into the sort of positions that ultimately they have no control over and there are no bids for, when difficulties once again arise. Nerves are raw enough, that even as things get better, it won’t take a lot to provoke bouts of panic. It’s ironic that we all use charts and pattern recognition to make judgments about how the past can predict the future, yet never learn the lessons of our mistakes. The music always stops playing. Yet, we seem to assume the band is just on break.
We should also remember that volumes have been poor. Made all the more so with Japan off on holiday. Treasury futures traded extremely lightly in Asia. Equity turnover was better, but nothing to write home about. It’s a brave trader who wants to initiate new positions of any size going into the weekend, but model-driven strategies will still be getting signals. Hopefully rebalanced for the changes in volatility and P&L draw-down.
But this could still be an interesting day. And not just because of the option expiries. The moves today have made some important short-term charts show signs of trying to tempt traders to try to catch the proverbial falling knife. If this was a normal period, we would be looking at all the double tops and bottoms, coming after extreme moves, and salivating to take a shot. And, indeed, it may prove too irresistible for some to resist. Especially as the most glaring examples — dollar, commodities, equities — all have liquid futures to play in.
Decent short-term technical cases to be made that these latest bounces could have some legs. Even if they are just corrections. And where stops should logically be placed is pretty clear. How much faith are you willing to place, once again, in policy makers? How many bad positions have been excised? Are you willing to assume that the bad news has already been priced in? There are lots of interesting questions to ask on a Friday. From home.