Anyone involved in the financial markets is surely feeling some sense of sea sickness, as volatility remains abundant in all areas of financial markets.
In a broad sense, volatility is regarded as “a tendency to change quickly and unpredictably” while in financial markets, volatility is defined as the degree of variation of a trading price series over time. High volatility, such as the conditions we are trading in at the moment, will thus see big swings in the prices of financial instruments. These swings will often be unpredictable, even for the best traders and technical analysts.
Volatility is the consequence of uncertainty, and is affected by numerous factors including inflation, interest rates, changes in taxation, monetary policy decisions, industry changes, and numerous political and economic events.
When we consider the current global landscape, it is easy to conclude why there is such a high level of uncertainty across markets. Some of the factors influencing volatility include:
- Inflation – Inflation across the globe already surprised to the upside, overshooting initial expectations, and while we can use various inputs to determine expected inflation, the risk of further unexpected increases remains.
- Monetary policy – Globally, central banks have started tightening their economic belts to counter inflation, by raising interest rates and tapering down quantitative easing. It is however not clear whether the action by central banks is aggressive enough to counter the rapid rise in inflation.
- The risk of recession – Peregrine Wealth Limited recently adjusted its models to indicate a 40% chance of recession versus the 25% chance expected earlier this year. Other analysts and financial market participants, however, are more cynical, with some placing that probability at closer to 80%.
- The Ukraine Russia War – The uncertainty as to how long the war will drag on, the economic effect it is having on the region, as well as the knock-on effect it has on commodity prices across the globe, continues to cause concern.
- China lockdowns – China continues to deploy their zero COVID-19 tolerance policy which is resulting in continuous lockdowns in key economic hubs in China. As the world’s second largest economy, the slowdown in the Chinese economy reverberates across the globe.
This erratic market behaviour is expected to be a reality for the time being, and while markets are behaving unpredictably, the best we can do is keep a level head, because with volatility comes opportunity.
DATA IN A NUTSHELL
Data from the world’s second largest economy, China, largely reaffirmed suspicions around the economic impact of the country’s zero COVID policy, as the country’s retail trade declined by 11.1% year-on-year in April, worse than market expectations of a 6.1% decrease, and compounding a 3.5% drop in the prior period. This marked the second consecutive month of decline in retail sales, as well as the steepest decline since March 2020, as consumption deteriorated amid widespread COVID-19 cases and strict restrictions in several key states, including Shanghai and Beijing. Meanwhile, China’s industrial production unexpectedly fell by 2.9% year-on-year in April, from a 5% gain in March. It was also the first decline in industrial production since March 2020.
Looking at the United States (US), retail sales increased 8.2% year-on-year in April. The reading follows an upwardly revised 7.3% rise in March, as American consumers continued to spend despite record high levels of inflation. Initial jobless claims rose to a 16-week high, increasing by 21,000 to 218,000 in the week ending 14 May, from a revised 197,000 in the previous period and above the market estimate of 200,000.
The United Kingdom (UK) unemployment rate dipped down to 3.7% in the first quarter of this year, the lowest reading since 1974, outperforming market expectations of 3.8%. There are fewer unemployed people than job vacancies for the first time since the inception of employment record keeping. Also, the employment rate increased by 0.1% to 75.7%. Meanwhile, real wage growth for regular pay was 1.9% lower than a year ago in March, the biggest decline since the third quarter of 2013, as high inflationary pressures continue to hurt consumers’ purchasing power.
EQUITIES IN DIRE STRAITS
The US Dow Jones Industrial Average lost over 400 points soon after opening on Thursday, while the S&P 500 and Nasdaq each fell nearly 1%, as investors agonised over soaring inflation and tighter monetary policy and their expected impact on economic growth. The dreary quarterly reports from big-box retailers, mainly Target and Walmart, underscored the extent to which inflation and supply chain bottlenecks could have on corporate earnings, and are reigniting fears of a slowdown in US economic growth.
The FTSE 100 shed 1.5% on Thursday, extending losses from the previous session, tracking its European and Asian peers lower after Wall Street sold off the day before. Among single stocks, Royal Mail Plc fell more than 5% after it reported an 8.8% loss in pre-tax profits, while EasyJet reduced its first-half loss and reported a rise in summer bookings. HomeServe Plc gained after Brookfield Asset Management Inc agreed to buy the UK repair company for £4.1 billion.
European equity markets traded 2% lower on Thursday, extending losses from the previous session amid broad risk-off sentiment across all markets, as inflationary concerns and rate hikes remain in focus. Automobile and retail stocks were among the biggest losers on European indices after the latest earnings results released in the US indicated that inflation is hurting company profits
MILK PRICES AT A RECORD HIGH
Agricultural commodity prices made headlines yet again this week, as Class III Milk, mainly used to produce cheddar cheese, rose to a record high of $25/CWT due to increased price pressure from fertilizer, fuel, and animal feed costs, prompted by Russia’s invasion of Ukraine.
Sticking with agricultural commodities, sugar futures on the International Commodities Exchange rose to 20¢ per pound in mid-May, a one-month high, as the prolonged war in Ukraine lifted input costs for producers and incentivised farms to divert production to biofuels and more profitable crops. Rising prices for energy, fertilizers, and logistics led producers to pass on cost burdens to consumers. At the same time, farms in the European Union (EU) increased acreage for other grains to take advantage of soaring prices for crops typically grown in war-torn Black Sea areas. S&P Global Commodity Insights cut sugar output forecasts for 2022/23 to 17.3 million tonnes from 17.5 million. Meanwhile, Brazilian production decreased by 38.7% year-on-year in April. Sugar has seen a 5.7% monthly increase, while prices are up 15.6% year-on-year.
Oil prices fell for the third straight session on Thursday, with West Texas Intermediate crude futures falling below $107 a barrel. A global economic slowdown, that could reduce consumption and dent fuel demand, is expected to offset any current supply constraints. Meanwhile, the EU this month proposed a total ban on oil imports from Russia in six months’ time. This move has, however, been delayed due to resistance from some member states.
Gold remained near a 15-week low, even as it edged up to trade at $1,820 an ounce on Thursday, as investors weighed worries over a weakening global economy against a strong dollar and prospects of even faster rate hikes by the US Federal Reserve (the Fed).
FED WEIGHS ON DOLLAR
The dollar index fell to around 103.7 on Thursday but remained near a 20-year high, as receding safe-haven demand was weighed against expectations of aggressive interest rate hikes by the Fed. Safe-haven currencies retreated on Thursday after an announcement that Shanghai will start allowing more businesses in zero-COVID areas to resume normal operations from the beginning of June, as the city looks forward to the end of lockdown. Meanwhile, Fed Chair, Jerome Powell, recently affirmed that the central bank was intent on using its tools to bring down multi-decade high inflation, even if it involves moving past broadly understood neutral levels.
The euro traded mostly sideways, lingering around $1.05, as traders increased their bets for higher borrowing costs after ECB member, Klaas Knot, said the central bank should not rule out a 50 basis point rate hike in July and another member, Villeroy de Galhau, warned a lower euro could threaten the ECB’s efforts to steer inflation towards its target. The common currency remains close to the five-year low of $1.035 reached last week and is still on the verge of hitting dollar parity for the first time in 20 years, as the invasion of Ukraine by Russia deepened the energy crisis, boosted inflation, and slowed EU economic growth.
The pound fell below $1.25 this week, remaining near the two-year lows witnessed last week, as investors continue to worry over stagflation or even recession risks, as the inflation rate hit levels not seen since 1982. Bank of England Governor, Andrew Bailey, recently said that the current surge in inflation was the Central Bank’s biggest challenge, since it gained independence in 1997.
The pound started the day trading at 1.2462/$ and 1.1782/€.
Written by Citadel Global Director, Bianca Botes
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