Short view By Philip Coggan - Financial Times
Short view By Philip Coggan
Published: May 19 2006 03:00 | Last updated: May 19 2006 03:00.Copyright by The Financial times
Strategists are trying to piece together explanations as to why financial markets have suffered so much turmoil over the past week. Clearly the unexpected rise in core US inflation, announced on Wednesday, must have played its part; one only needed to look at the reaction on Wall Street.
But if the market turmoil is an inflation scare, that makes it hard to understand why the yield on the 10-year Treasury bond has barely changed on its level of a week ago, while gold has fallen in price. If the sell-off instead reflects a lack of confidence in the US Federal Reserve under chairman Ben Bernanke, why has the dollar moved so little against the euro and the yen? The dollar was worth Y110.6 on May 10 and Y110.7 yesterday.
It seems more likely that the primary driver is risk aversion. Emerging market currencies, small cap stocks and commodities have taken the biggest hits; perhaps reports last week that US pennies and UK 2p coins were worth more than face value were the ultimate sell signal for the latter.
Perhaps complacency made investors temporarily forget that prices never rise in a straight line. It is more than three years since the equity market bottomed in spring 2003 and through that long period there has been no 10 per cent correction in global markets. That is longer than the historical average.
Furthermore, volatility seems to beget volatility, as events in the derivatives markets seem to show. With equity markets having had a long period of low volatility, a period of turmoil may have been overdue. Once started, it seems unlikely to stop quickly.
It probably does not help that the Fed has indicated that its future monetary policy may be decided by the economic data. Since much short-term data is random noise, this creates a lot of uncertainty in investors' minds. But perhaps markets did not need a reason to fall; there is not yet any consensus as to what caused the 1987 crash.
As James Montier, strategist at Dresdner Kleinwort Wasserstein, says: "This sort of thing tends to happen when you invest in expensive equity markets based largely on momentum."
Published: May 19 2006 03:00 | Last updated: May 19 2006 03:00.Copyright by The Financial times
Strategists are trying to piece together explanations as to why financial markets have suffered so much turmoil over the past week. Clearly the unexpected rise in core US inflation, announced on Wednesday, must have played its part; one only needed to look at the reaction on Wall Street.
But if the market turmoil is an inflation scare, that makes it hard to understand why the yield on the 10-year Treasury bond has barely changed on its level of a week ago, while gold has fallen in price. If the sell-off instead reflects a lack of confidence in the US Federal Reserve under chairman Ben Bernanke, why has the dollar moved so little against the euro and the yen? The dollar was worth Y110.6 on May 10 and Y110.7 yesterday.
It seems more likely that the primary driver is risk aversion. Emerging market currencies, small cap stocks and commodities have taken the biggest hits; perhaps reports last week that US pennies and UK 2p coins were worth more than face value were the ultimate sell signal for the latter.
Perhaps complacency made investors temporarily forget that prices never rise in a straight line. It is more than three years since the equity market bottomed in spring 2003 and through that long period there has been no 10 per cent correction in global markets. That is longer than the historical average.
Furthermore, volatility seems to beget volatility, as events in the derivatives markets seem to show. With equity markets having had a long period of low volatility, a period of turmoil may have been overdue. Once started, it seems unlikely to stop quickly.
It probably does not help that the Fed has indicated that its future monetary policy may be decided by the economic data. Since much short-term data is random noise, this creates a lot of uncertainty in investors' minds. But perhaps markets did not need a reason to fall; there is not yet any consensus as to what caused the 1987 crash.
As James Montier, strategist at Dresdner Kleinwort Wasserstein, says: "This sort of thing tends to happen when you invest in expensive equity markets based largely on momentum."
posted by Carlos T Mock at 10:27 AM
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