Market Meltdown: Factors Influencing the Correction

Key takeaways:

• The global markets are experiencing a correction long in the making
• Key drivers of the market meltdown include leverage unwind and economic worries
• Labor market dynamics central to future economic trends

Kathryn Rooney Vera, Chief Market Strategist at StoneX, offers her insights into the global markets which she believes are currently in “price discovery mode.” Kathryn explains that risks were poorly priced, evidenced from the reversal in the last week of July and the magnitude of the global market meltdown.

According to Rooney Vera, many assets are now verging on bear market territory or triggering circuit breakers, and while there are bear market opportunities, it’s still too early for bargain hunters to step in and investors should take caution in the current market environment.

Kathryn also highlights some key drivers of the market meltdown, including leverage unwind, economic worries, and risks of policy mistakes.

Short Yen Unwind

Kathryn believes that the yen carry trade unwind is not over, with total net yen shorts barely being covered. Japanese yen has appreciated from 160 to 140 in a matter of weeks, while the local equity index – the Nikkei 225 – experienced its worst 2 day drop in history.

Concentration Risk High

Spreads are extremely tight, with the VIX considerably higher after being stuck below 20 for an extended period of time. The reflection of complacency add additional exposure should bearish sentiments gain traction.

Growth Scare and Recession Risk

“The Sahm rule triggered with July labor data - as we forecasted while the US yield curve flirts with un-inversion,” Rooney Vera explained. Historically, this is associated with recession. There is a risk that unemployment rises as companies unwind the “job hoarding” phenomenon during Covid and “cut the fat” of unproductive employees. The unemployment rate typically doesn’t marginally tick up, but skyrockets.

Geopolitical Risks

There are also considerable geopolitical risks from Iran/Hezbollah in Lebanon with lingering threats of response against Israel, which could further exacerbate geopolitical uncertainties and contribute to volatility.

Fed Rate Cuts

Rooney Vera believes that an inter-meeting interest rate cut is highly unlikely, but an aggressive cut at a scheduled meeting is entirely possible. If the Fed does in fact conduct an emergency rate cut, it will likely not help the current bearish sentiment. To see Kathryn’s prediction for the Fed rate cut, click here.

Labor Markets Dynamics and Economic Trajectory

Rooney Vera emphasizes that the labor markets remain the lynchpin to the next phase of the US economic cycle. She highlights the potential unwinding of the Covid-induced “job hoarding” phenomenon as corporations face margin pressures. This could be a key risk to employment and might show through in forthcoming jobs readings. Hiring rates in JOLTs data have now moved below pre-Covid levels, along with a falling quits rate. These trends, coupled with the potential for layoffs, could push the economy toward a recession.

To read more, including Kathryn’s cross-asset investment strategy covering equities, rates, digital assets, gold, and copper, click here.

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