After much anxiety, relatively little net change in financial markets – except in complacency – for now; China refills on U.S. Treasuries.
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Market Correction: Round Tripper? In the eleven days since the close on Thursday February 1, financial markets have gone through gyrations not seen since the market correction of late August 2015 – over 2½ years ago. The fall qualified as a correction for stocks by most definitions – a 10% downward move in a short period of time was reached in the early afternoon of Friday, Feb 8 by the S&P500, By the end of that day, however, the index closed up about 1.5% for the session, and has risen each of the four days since. By mid-afternoon Friday1, the index was up about 7.6% since its February 9 intra-day low. All told, the index is now down some 3.5% since just before the correction. Similar results held for fixed-income indexes.
But the most important change has been the evaporation of complacency. That change was reflected, albeit imperfectly, in the widely-watched VIX Index, which halted trading four times on Tuesday, Feb 6, spiking to 50.3 before falling back to a relatively sedate 20.5 during trading on Friday, Feb 16. The shift had real-world consequences; some specialty traders with positions betting against volatility – thus profiting as markets stayed calm – were wiped out by the resurgent VIX and its related derivatives.
It’s notable that unlike August 2015 and February 2016, when the market corrected in the face of major changes in central bank policies, this most recent correction wasn’t triggered by either a fundamental flaw in financial markets or an external event with wide-ranging consequences. It’s also noteworthy that since that February 2016 low, the S&P500 rose some 57% between then and the most recent peak on January 26, 2018 – and 41% between the February 11th trough and this most recent trough on February 8, 2018.
Every correction is different, and the world’s economies have changed significantly over the past two years – mostly for the better. But investors’ expectations have changed as well, and it’s the balance between the two that can drive financial markets – sometimes to distraction.
China and U.S. Treasuries: On board. According to the U.S. Treasury Department, December 2017 saw China increase its holdings of U.S. Treasury bonds, notes and bills by $126.5 billion from the previous December, to $1.18 trillion. That suggests that a notable change resulting from China’s January announcement of a review of its foreign exchange holdings may not yet have taken place. Given the shifting interest rate environment both in the U.S. and elsewhere, China’s FX holdings, especially of U.S. dollar-denominated investments, will be followed closely.
1 All figures Source: Bloomberg, February 16, 2018, 2:35 PM ET