Searching for winners in the market bloodbath

It’s been a tumultuous start to the fourth quarter for most financial asset prices. Investors have grabbed onto the sell now, ask questions later strategy, and sold stocks and other risky assets with abandon in the middle of the week. What is driving this sell off? Growth fears, the US/China trade war, a Fed that recently hit the pause button, Brexit or geopolitical fears? The answer is probably a mix of all of these things; right now, there is too much uncertainty and risk out there to make it worth holding either overvalued equities (re. US indices), or risky assets that could be prone to another sell off. Hence the worst day for the FTSE 100 for more than 3 years, and a decade low for Aussie dollar vs. the US dollar. 

What now for the Aussie?

At this stage, it is hard to be optimistic that the selling pressure is over. If we look at the AUD/USD, technical indicators still suggest that momentum remains to the downside for this pair. This may explain why the mini recovery in the Aussie, which saw AUD/USD rise 30 pips on Wednesday afternoon, ran into a wall of selling pressure at 0.67 as the Asian trading session started. We remain concerned about the prospects for the Aussie for two fundamental reasons: 1, the RBA cut interest rates to an all-time low earlier this week, which is the final nail in the coffin for the Aussie carry trade for the foreseeable future, 2, the US/ China trade war could damage Australian trade and erode demand for raw materials, that Australia produces in abundance. This is why we believe that any rallies in the Aussie dollar, especially vs. the JPY and USD, could be faded. We don’t fancy the Aussie’s chances against the NZD either, with AUD/NZD sharply reversing its 10-month high in recent weeks, and the downside continuing to gain momentum. A move back to 1.05, the mid-August low, is now a possibility for AUD/NZD in the coming weeks.

Is this a sign of a bleak future for the FTSE 100? 

Stocks sold off sharply across the board this week, but one question that has popped up is why the FTSE 100 has fared worst of all. The answer is Brexit. Unusually, the FTSE and the pound have sold off in unison. GBP/USD is hovering around the $1.23 level, while the FTSE 100 sunk more than 3% on Wednesday. The markets were clearly not in a bullish mood after Prime Minister Johnson’s keynote speech at the Conservative Party conference. The announcement of his do-or-die Brexit proposal that tried to tackle the Irish boarder question, has failed to rouse interest for British assets. More than $58 bn was wiped off of the 100 biggest UK companies on Wednesday. One can assume that there could be further sell offs if the Europeans sound lukewarm on the proposals sent to them from Downing Street. Boris Johnson has been clear – if the EU does not accept these proposals then we leave the EU without a deal in just under 4-weeks’ time. The prospect of a no-deal Brexit is one of the biggest fears facing traders of financial markets. They are now facing their fears, and the impact on UK asset prices may not be pretty. Combined with weak global growth, a no-deal Brexit could not come at a worse time. The sharp 275-point drop in the FTSE 100 since the start of October, from 7,400 to approx. 7,120, could be a sign of what is to come. If the stock market rout is to continue, then watch what the FTSE 100 does around the 7,000 mark. This is a critical support level for this index, and if it gives way easily then a deeper sell off is likely, 6,600, the low from last December, is also a major support level if the selloff continues. 

Time for Europe to outshine the US

Elsewhere, European stocks could be given a boost in the coming days, after a couple of investment banks decided to increase their exposure to beleaguered European stocks in favour of overpriced US ones. We believe that quality European stocks could flourish in this market, as investors start to chase value stocks ahead of growth. However, global trade fears combined with a very weak economic performance for Germany, makes us loathe to be too encouraging about large German exporters at this stage. 

US Non-manufacturing ISM to the rescue, we think not… 

The US is also worth watching. The focus is now on the US NFP report on Friday. Stocks have sold off on the back of bad US manufacturing news that was released earlier this week, thus, there is a chance that a weak NFP report could also spook investors and trigger a sell off later this week. The weak ADP report for September, only 135k jobs were created in the private sector last month, suggests that we have reached peak employment for the US and NFPs could also disappoint. Likewise, it would likely take a huge positive surprise in the non-manufacturing ISM survey that is released on Thursday, to reverse the downside momentum for US stocks right now. The market is expecting a relatively small decline in the service sector ISM to 55.1, any larger decline could trigger a repeat of today’s sell off in global financial markets. This month’s Fed meeting does not take place until 29/30 October, and with no major Fed speeches planed for the rest of this week, the market is unlikely to receive any solace or soothing from the US Federal Reserve in the near-term, which could exacerbate a sell off. 

Only the toughest will survive 

Overall, in this environment, safe havens win out. However, there are some more interesting ways to view financial markets in the current environment. The Kiwi may outpace the Aussie in the FX market. Likewise, cheaper European stocks may start to outpace expensive US stock markets in the coming weeks. We also believe that heightened levels of fear in the market will lead to a more permeant shift out of growth stocks, with a focus on value. Thus, goodbye non-profit-making tech stocks (hence the pulling of the WeWork IPO), and hello to boring old Johnson & Johnson, other utilities, and lease-back companies that seem to always generate a profit whatever the economic backdrop.