Algorithmic trading chases and reinforces market momentum. — Bloomberg
IS any market easy for stock pickers? In a Bull Run, it’s hard for active managers to beat passive funds that ride the index higher.
In thunderstorms like the one triggered by US President Donald Trump’s tariff announcement, fundamental valuation goes out of the window too.
When stocks plunged last Thursday, investors were partly digesting the impact on companies directly affected by the higher-than-expected tariffs – the so-called first-order effect.
Analysts had done the work ahead of time; it was just a case of multiplying the hit.
But, as the saying goes, the ripple can be bigger than the rock. The sheer quantum of the levies created a second-order effect: the risk of global recession.
That’s not so easy to price.
Combine this with technical factors.
Algorithmic trading chases and reinforces market momentum.
Leveraged hedge funds will be forced to close positions to satisfy margin calls. That often means taking profits on positions that have done well – you sell what’s gone up to pay for what’s gone down.
Financial assets then become closely correlated.
Moreover, the holiday closure of some Asia markets at the end of last week meant they were catching up with consecutive declines on Wall Street come Monday’s open.
Asian losses felt worse than they might have otherwise.
Hence the chaos of the market response.
On the technical side of the ledger, look at German defence firm Rheinmetall AG.
It’s an ostensible tariff winner, with revenue effectively underwritten by Europe’s commitment to rebuilding its military.
But the shares dived 27% at Monday’s open, only to recover all those losses in mid-afternoon trading. That was likely a forced deleveraging trade.
Someone may have made some quick money buying that dip and taking the gain.
Or rather some robot: A human would have missed the opportunity by taking a minute to investigate whether there might have been some fundamental reason for Rheinmetall’s fall.
That’s your reward for thinking. At least the chief executive officer was reasonably quick off the mark – but he knows what’s what.
From the perspective of first-order impacts, UK stock indexes had looked relatively insulated from tariffs.
Britain received only the 10% baseline hit – against the European Union’s 20%.
Analysts at UBS Group AG assessed it to be among the markets least affected by tariffs directly.
The FTSE 100 blue-chip index has some large companies in defensive sectors which are more resilient to economic slowdowns. The mid-cap FTSE 250 index derives its revenue largely at home.
But the FTSE 100 has dropped more than the Stoxx Europe 600, the FTSE 250 nearly as much (in US dollar terms.)
The culprit in the blue chip index is its exposure to Asia and falling commodity prices via international banks, miners and oil giants.
The FTSE 250 is a lightning conductor for concerns about UK economic growth.
It may also be suffering because investors no longer see private equity firms bailing out its losers with generous takeover offers.
Equity turmoil and higher credit spreads are anathema to private equity – witness the share price falls among the major listed buyout firms.
Other anomalies are harder to rationalise.
The tariff announcement at first accelerated the rotation from cyclical stocks (exposed to economic cycles) to safer defensives, a shift Morgan Stanley strategists reckoned wasn’t even halfway done going into the tariff shock.
Real estate, utilities and telecoms were the natural beneficiaries – firms that operate in local markets and have bond-like characteristics. Yet many of these have since given up their gains as markets regained their composure on Tuesday.
BT Group Plc, Orange SA and Vodafone Group Plc closed below their level before Trump’s announcement.
The European telecoms sector is down around 6% in US dollar terms since last Wednesday; European autos are off 10%.
A good run
Telecoms players have had a good run this year; they’re an easy sell if you’re deleveraging.
Still, it’s a dubious achievement to participate in the worst of the market rout and then miss out on the subsequent bounce.
Then there’s Relx Plc, the academic publisher.
It’s fallen despite it not shipping goods across borders. The firm’s exhibitions business could suffer in a global slowdown but it’s a relatively small contributor to revenue.
As sentiment settled on Tuesday, it wasn’t clear how much of the overall bounce in stocks was driven by high-conviction buying rather than short positions being closed.
Some of the supposed tariff winners performed least well.
There are shades here of market movements in the months after the Covid-19 vaccine breakthrough in November 2020, when travel and leisure stocks would gain on signs economies might reopen soon, and diagnostics stocks would fall.
Compromise deals
The reverse would happen on news of hiccups to vaccine distribution. We may be in for something similar in the months ahead on hopes of possible tariff suspensions or compromise deals.
There will be opportunities in all this for the nimble investor. The snag is the robots may get to them first. — Bloomberg
Chris Hughes is a Bloomberg opinion columnist. The views expressed here are the writer’s own.
