Dear customers,
It's been a tough few days on Wall Street. Stocks tumbled earlier this week after a disappointing July jobs report, triggering recession fears and a concern compounded by a massive sell-off on global markets over the weekend. Japanese equities are officially in a bear market, with the Nikkei index plunging 12.4% on Monday, recording its worst day since Black Monday 1987, only to register its strongest rebound on Tuesday.
On Monday morning, the Volatility Index reached levels comparable to those seen in the midst of the Great Containment. Recent fluctuations have put considerable pressure on "carry trade" strategies, where investors borrow cheaply in low-interest currencies in order to invest in higher-yielding assets. The disruption to these strategies, caused by increased volatility and sharp movements in exchange rates, reinforces our belief that the market may soon stabilize. The seasonal lack of liquidity, combined with a rapid and extreme rise in volatility, convinced us that we were close to a turning point.
The Nasdaq composite plunged deeper into correction territory, down over 13% from its all-time high last month. The S&P 500 fell by almost 9%, and could soon join the technology index. The Dow Jones Industrial Average tumbled more than 6% from its recent peak.
This, combined with falling US Treasury yields and a surge in the Wall Street Fear Index to its highest level since 2020, made investors increasingly nervous about the markets and the economy. The prospect of an emergency rate cut by the Fed added to these fears.
However, on Wall Street, many investors believe that fears of an economic slowdown are overdone and that markets are overreacting. They argue that the massive sell-off was long overdue, given the scale of this year's rally, and many believe that the pullback could soon represent a buying opportunity, particularly in the technology sector.
Analysis of current situation
The impact of the carry trade:
To understand the scope of this crisis, we need to look at a long-standing strategy used in Japan: the "carry trade". This technique involves borrowing money in a country with low interest rates, such as Japan, and investing in a country with higher rates, often in very low-risk assets. The aim is not to speculate on risky assets, but to take advantage of the difference in rates. The main risk lies in currency fluctuations. If the borrowed currency appreciates, this can lead to losses when the investments are converted to repay the loan.
Take the recent example of Japan. On July 5, one US dollar was worth 160 yen, while today, August 5, it's worth just 140 yen. Thus, an investor who borrowed 160 million yen to invest one million dollars in the United States now finds himself with only 140 million yen after conversion, a loss of 20 million yen. Faced with this situation, the investor is forced to sell assets to cover this loss, leading to a massive sell-off.
This Japanese situation also affects the Nasdaq for several reasons. Both Japanese and American investors are selling US stocks to offset their carry trade losses. American hedge funds, accustomed to this practice, are particularly hard hit and forced to sell their shares.
The inversion of the bond curve: A double-edged signal
The inversion of the bond curve, often seen as a harbinger of recession, can also be interpreted in a positive light. Historically, this inversion precedes a period of interest rate cuts by central banks, aimed at stimulating the economy. This means we could see more favorable credit conditions, facilitating investment and economic growth.
What's more, this inversion offers buying opportunities for bond investors. Higher yields on short-term bonds can be attractive, and the prospect of lower rates could increase the value of longer-term bonds. Investors can therefore take advantage of this period to rebalance their portfolios and secure attractive returns.
Declining indices and investment opportunities :
Recent analyses show that, despite the market downturn, this correction can be seen as an opportunity to enter the market at more attractive levels. The rapid fall, influenced by unfavorable seasonal trends and a lack of liquidity, thus offers a chance to acquire shares at reduced prices.
Economic outlook :
The economic outlook in the USA and Canada remains encouraging, despite the current challenges. In the US, the likelihood of recession has diminished thanks to effective monetary policies, suggesting a gradual economic recovery over the coming quarters, despite last week's minimal increase in unemployment. In Canada, signs of recovery are expected as early as 2025, supported by favorable fiscal and monetary policies.
Investment strategies
Technology and innovation :
Our investment strategies using artificial intelligence and advanced algorithms have not detected any major material changes in our portfolio. The technology sector, particularly semiconductors, although recently shaken, offers significant long-term growth prospects.
Importance of technological actions
Normal volatility for technology stocks :
Downturns in technology stocks are normal and recurrent. Periods of correction provide an opportunity to enter the market at lower price levels, thereby profiting from the future growth of these companies.
Volatility and downturns: Strategic buy points :
Market volatility, while a source of concern, represents significant buying opportunities. Historically, periods of volatility have often been followed by phases of recovery, creating strategic entry points for strengthening or establishing new positions in high-growth companies.
Details of our recent analyses
1 The collapse of indices :
A recent analysis highlights a sharp market downturn affecting the S&P index, caused by a combination of economic and geopolitical factors. Although worrying in the short term, this decline presents several interesting points of analysis.
- Triggering factors: The causes of this downturn were multiple, including rising interest rates, heightened geopolitical tensions, and corporate earnings that fell short of expectations. These factors led to a massive sell-off in equities, exacerbated by investors' emotional reactions.
Technical analysis: From a technical point of view, the S&P index has reached key support levels which, historically, have served as rebound points. This support zone is crucial and could signal a potential turnaround if economic conditions improve.
- Buying opportunities: For long-term investors, these reduced price levels offer exceptional buying opportunities. High-quality stocks, now undervalued, can offer attractive returns when the market stabilizes.
- Market sentiment: Current market sentiment is dominated by fear and uncertainty. However, underlying economic indicators, such as moderate GDP growth and strong employment data, suggest that the market's reaction may be disproportionate to the economic fundamentals.
2. volatility-based hedge funds :
Quantitative analysts, or "quants", have been particularly hard hit by recent market volatility. These strategies use complex mathematical models to guide their investment decisions, and extreme price fluctuations can disrupt these models. However, volatility can also create unique opportunities for those who know how to adapt quickly.
Challenges faced by quants: Quantitative strategies, while effective in stable market conditions, can be sorely tested by sudden and unpredictable market movements. Models based on historical data may not react optimally to market anomalies, requiring rapid and precise adjustments.
Risk management strategies: Quants use various risk management mechanisms to mitigate the impact of volatility, such as portfolio diversification, adjustment of risk parameters and use of hedges.
Potential opportunities: Despite the challenges, volatility also offers buying opportunities at attractive prices for quantitative investors able to spot anomalies and react quickly. Volatile markets can reveal inefficiencies that well-calibrated quantitative strategies can exploit to their advantage.
3. one trillion in bond market losses
The recent loss of a trillion dollars on the bond market has struck fear into the hearts of investors everywhere. This spectacular fall was triggered by a combination of factors, including rising interest rates, economic uncertainty and inflationary fears. However, closer analysis reveals that economic fundamentals remain solid. Companies continue to present robust balance sheets, and key economic indicators such as GDP growth and unemployment rates are showing signs of resilience. This situation offers a buying opportunity for investors ready to take advantage of more attractive valuations in a market environment that could stabilize in the medium term. Recent monetary policy measures are also aimed at supporting market liquidity, which should contribute to a gradual recovery in bond prices.
4 Where the shares go :
Projections for the future direction of the stock market vary, but several indicators and expert opinions converge on a nuanced and strategic outlook:
Current trends analysis: An in-depth analysis of current market trends, including recent performance, sector strengths and weaknesses, and macroeconomic factors influencing share prices.
Expert opinions: A range of expert opinions are presented, from bullish to bearish, each shedding light on the underlying indicators and analyses.
Key economic indicators: Key economic indicators such as interest rates, inflation data, GDP growth and employment figures are highlighted as crucial elements for future market projections.
Global factors: The analysis also explores global factors affecting the stock market, including geopolitical events, international trade policies and economic conditions in major economies such as the USA, China and the European Union.
Historical comparison: A comparison with past market cycles is made to provide context and potential patterns, helping investors to better understand the current market environment.
Technological impact: The impact of technological advances and innovations on the stock market is also explored, including the influence of emerging technologies, digital transformation and the performance of the technology sector.
5 Is Meltdown overblown?
Against a backdrop of high volatility, some experts believe that the recent market plunge is exaggerated and does not reflect the underlying economic fundamentals. Our analyses point out that economic indicators remain robust, and that fear and uncertainty have amplified the market's reaction. Many experts recommend viewing this correction as a strategic buying opportunity. Strong economic fundamentals, such as continued GDP growth, resilient corporate earnings, and accommodative monetary policies, suggest that the market is likely to rebound. History shows that market corrections often offer attractive entry points for investors with a long-term perspective. Taking advantage of these downturns to strengthen positions in quality companies can lead to significant returns when the market stabilizes and resumes its growth trajectory.
Conclusion
In conclusion, the last few days have been marked by considerable volatility and significant declines on the markets. However, it is essential to maintain a long-term perspective. Many analysts believe that fears of recession are exaggerated, and that the current market corrections offer attractive buying opportunities, particularly in the technology sector.
We firmly believe that current market conditions present a unique opportunity for investors. The recent decline in indexes, combined with positive economic forecasts and our advanced technological approach, creates the right environment for profitable long-term investments.
If you have any questions or would like to discuss your investment or capital deployment strategies, please do not hesitate to contact us.
Thank you for your continued confidence.
Best regards,
Philippe Pratte
Pratte Portfolio Management
