Thursday February 18

The stock market’s three day rally comes to an end as oil price volatility and weak earnings from Walmart take a toll on equity prices. The S&P500 fell 0.5% to 1,917 and the Dow Jones fell 0.2% to 16,413. Walmart earnings showed that the company experienced an annual decline in sales for the first time in over thirty years and shares fell 3.3% today as a result. However the VIX continued to easy downward below 22 which is a good sign that in spite of today’s losses fears may be somewhat subsiding. Oil prices were once again volatile, rising in early trade before finishing lower after data showed inventories remained elevated. Brent oil fell 0.6% to $34.28 and WTI lost 1% to $30.36. Stocks have reversed some losses this week as investors focus on solid economic fundamentals and the idea that banking sector concerns were overblown. Nevertheless investors today sought Treasuries as the 10 year yield fell seven basis points to 1.75%. Yields in Germany also fell as ECB minutes showed that further monetary easing was likely to come in March. Accordingly the euro fell 0.3% against the dollar to $1.1090 and the dollar once again fell against the yen to Y113.41. Gold prices also rose.

As a result of increasing political risk and uncertainty the British pound has lost value against the dollar in recent weeks. Traders are taking positions that will be profitable in the event of volatility for the British pound this summer. This summer a referendum is to take place in the UK regarding the future of its membership in the European Union. Uncertainty regarding the outcome of the vote has led to fears that the pound will be a volatile currency this summer. Analysts speculate that the outcome of the vote may affect a wide variety of investments in the country which could affect gold exporters as well as the real estate market among others. Implied volatility on the pound over the six month time span is currently 12% which is the highest since 2011 at the peak of the eurozone soverign debt crisis. The put/ call ratio which is an indication of demand to hedge against a falling pound is at the highest level since 2008. PIMCO puts the odds of a Brexit (British exit from the Eurozone) at 40%.

The New York Fed once again highlights the risks present in the asset management industry that could affect other areas of the economy. These concerns have been echoed by many over the last year, and relate to the possibility that investors may withdraw funds en masse from investment products that offer liquidity to investors. The problem arises when asset managers would have to sell bonds into illiquid markets which would lead to deeply discounted prices in higher yields. These concerns are underscored by poor liquidity in markets resulting from increased regulation. This type of event would lead to a spike in yields and risk that may negatively affect companies outside of the financial sector.

Ray Dalio predicts that central banks around the world may have to adopt even more radical monetary policy in order to stimulate growth. While low (and negative) interest rates and quantitative easing have constituted two unconventional measures to stimulate economies, Dalio notes that these have been ineffective and as a result central banks will have to be even more foreful. Dalio notes the possibility that central banks could resort to directly distributing money to households, which Milton Friedman referred to as “helicopter money.” While Dalio made it clear that this was in no form a particular prediction or opinion of his, he believes that unconventional measures such as these are a possibility. This highlights the concern of many in the financial community that central banks have lost the ability to guide markets, which is a large concern considering markets and economics are underpinned by the belief that central banks have a great deal of control and influence.

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Thursday February 18

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