Market Panic or Rational Response?
Market Panic or
Rational Response?
Equity markets encountered significant headwinds this past week. Weaker-than-anticipated US employment data alongside escalating recessionary fears sparked a sell-off on Monday. However, macroeconomic data doesn’t appear to be fully justifying the panic that has ensued and this could be an overreaction to a small number of weaker-than-expected data releases and some idiosyncratic earnings headlines.
To understand this rather volatile market reaction, we can delve into what has been happening in both Japan and the US in the lead up to this week.
Interest Rates in Japan
As previously noted in the Artorius investment comment last week, the Bank of Japan's (BoJ) policy shift on July 31st, and the accompanying rhetoric, suggested a continuing notion to raise the policy interest rate. The change from Japan’s historical role as a liquidity provider to the rest of the world to a positive domestic interest rate environment, and potentially more hikes to come, led to a series of carry trade reversals.
The market reacted with such volatility that on Wednesday, BoJ Deputy Governor Shinichi Uchida sent a strong dovish signal by pledging to refrain from hiking rates while the markets are unstable. Although this has calmed the markets, a strengthened Japanese Yen is anticipated to compress corporate earnings margins which, alongside liquidity constraints, could induce a corrective phase in equity markets. The Japanese equity market has already experienced extreme volatility, with the Nikkei 225 index enduring its biggest single day sell-off since 1987, only to be followed by a reflexive bounce back on Tuesday. Nonetheless, the contagion effects observed in the US and European markets warrant continued caution.
Unemployment Data in the US
In the US, weaker-than-expected data releases included the unemployment rate, which ticked up to 4.3% in July, signalling a cooling labour market. In addition, the Bureau of Labor statistics reported that 114,000 jobs were added in July, which was significantly lower than expected and lower than the June figure of 179,000.
These reports intensified talks of the triggering of the “Sahm Rule”. This measure was first suggested by Federal Reserve economist Claudia Sahm to indicate the onset of a recession. The “Sahm Rule” is based on the observation that when the 3-month average unemployment rate rises half a percentage point above the low of the prior 12 months, the economy is, or is about to be, in recession.
Sahm Rule Recession Indicator
Source: Sahm, Claudia, Sahm Rule Recession Indicator [SAHMCURRENT], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/SAHMCURRENT, August 8, 2024
Although this metric was triggered on Monday and the number of unemployed individuals rose by a sharp 352,000 in July, 249,000 of those individuals were only temporarily laid off. This figure may also be exacerbated by layoffs related to Hurricane Beryl.
An additional factor contributing to the rising unemployment rate is a surge in labour force participation as individuals re-enter the workforce following the pandemic-induced shift towards flexible working. Furthermore, increased immigration has expanded the labour pool. While job openings have contracted and unemployment has risen there are still over 8 million vacancies, which suggests a more complex labour market dynamic than simply rising unemployment.
Job Opening and Labour Turnover Survey Data
Source: US Bureau of Labor Statistics
US economy
Other recent economic data points out of the US have been mixed. The Institute for Supply Management (ISM) manufacturing data came out weaker-than-expected last week. However, ISM services data on Monday provided some slight respite by announcing higher than expected expansion in economic activity in the services sector. The July figure registered 2.6 percentage points higher than June’s figure and marked the fifth time the index has been in expansionary territory in 2024.
ISM Services: Business Activity, New Orders & Employment | 50+ = Economy Expanding
Source: Artorius, Bloomberg
The Q2 US earnings season has been mixed with some high-profile misses, and the market has punished stocks that have not met expectations. Despite exceeding earnings expectations, Amazon's failure to meet revenue projections resulted in a post-market decline in its share price. And although Microsoft surpassed earnings and revenue estimates, underperformance in cloud computing growth, led to an after-hours sell-off. These developments indicate a potential cooling of investor sentiment towards the technology sector. Whether this shift is driven by emerging concerns over AI demand, or the sustainability of capital expenditure is one to monitor.
However, in aggregate, US companies are delivering strong growth. According to Factset, S&P 500 companies are on track to deliver earnings growth of 11.5% for the quarter. This would mark the highest year-over-year earnings growth rate reported by the index since Q4 2021.
In conclusion, the confluence of factors including the BoJ's policy shift, a strengthening Japanese Yen, and the evolving US labour market, has created a challenging environment for investors. And while caution is warranted, it is essential to maintain a long-term perspective and avoid impulsive decision-making based on short-term market fluctuations.
Rachael Faint,
Portfolio Analyst
*Any feedback provided can be anonymous
Important Information
All expressions of opinion reflect the judgment of Artorius at 9th August 2024 and are subject to change, without notice. Information has been obtained from sources considered reliable, but we do not guarantee that the foregoing report is accurate or complete; we do not accept any liability for any errors or omissions, nor for any actions taken based on its content. The value of an investment and the income from it could go down as well as up. The return at the end of the investment period is not guaranteed and you may get back less than you originally invested. Past performance is not a reliable indicator of future results. Nothing in this document is intended to be, or should be construed as, regulated advice. Artorius provides this document in good faith and for information purposes only. Reliance should not be placed on the information contained within this document when taking individual investments or strategic decisions.
Artorius Wealth Management Limited is authorised and regulated by the Financial Conduct Authority. Artorius is a trading name of Artorius Wealth Management Limited.
FP20240809001