Dow’s Worst Day Since 1987 Crash, ECB Falls Short, Dollar Signals Liquidity Risk

Dow, S&P 500, Dollar, Gold Talking Points:

• The Dow plunged 9.99 percent for its worst day since the 1987 crash while the S&P 500 is on pace for its worst week (now -16.5%) since 1932
• President Trump’s press conference did little to assuage fears while the ECB made the impression that it was out of viable options
• Liquidity should be a top priority as the Dollar’s charge and gold drop show market demand while a $1.5 trillion NY Fed infusion suggests need

Assessing the Day’s Damage

The performance from risk-leaning markets has been nothing short of cataclysmic this week, but Thursday’s performance managed to raise the level of pain even further. While troubling itself, it is even more unsettling that the accelerated selloff occurred after further large-scale efforts aimed at arresting the panic. Once again, the full magnitude of the fear was perhaps best encompassed by the US equities market. The Dow registered an incredible 10 percent collapse, its biggest such crater since the 1987 crash frequently referred to as ‘Black Monday’. From the more popular (via derivatives trading) S&P 500, another hit of the Level 1 circuit breaker (-7% from previous close) failed to stir a recovery with a revived end-of-day selloff tipping driving the index to lows on the close. In aggregate, the S&P 500’s weekly loss is now an incredible -16.5 percent. At this pace, we could readily surpass the late September 2008 -18.2 percent GFC peak which holds the record back to 1932.

Chart of S&P 500 and 1-Week Rate of Change (Weekly)

Chart Created on Tradingview Platform

While I like to refer the imperfect sentiment representation of the once-best performing US equity benchmarks, it is important to keep close tabs on the global tides to evaluate whether this is just a relative speculative value adjustment or a genuine systemic rout. There is plenty of evidence to suggest we are in the latter scenario. The VEU rest of world ETF experienced a severe gap lower, which only hints at some of the extreme pain on certain indices. The German DAX and Italian FTSE MIB were severely hard hit. Outside stocks, emerging market capital assets and currencies have tumbles together. Junk bonds continue to feel the stress of liquidity hiccups. Even Treasuries are starting to show some corollary to risk assets.

Chart of VEU Rest of World ETF and Gap (Daily)

Chart Created on Tradingview Platform

Efforts at Calm by Trump and ECB Fall Short, What Options are Ahead?

In all the pandemonium it would seem that policymakers were asleep at the wheel, when in fact key policy groups were attempting to impart stability on the system. Late Wednesday, President Trump spoke form the Oval Office in a scheduled speech designed to impart calm on a panicked market and population. Offering little in the way of material policies, speculative markets showed little relief after his remarks closed. That would shift the onus for global confidence onto the European Central Bank (ECB) who was due for its regularly scheduled meeting. The second largest central bank in the world offered further easing as expected, but the further 120 billion euro commitment seemed less meaningful than the refusal to cut benchmark rates another 10 basis points as had been projected.

Chart of EURUSD with 10-Day ATR (Daily)

Chart Created on Tradingview Platform

Moving forward, the focus remains on external influences aimed at stabilizing the financial system and economy. It is possible that the markets can exhaust themselves with a deep and rapid selloff, but it would be extremely dangerous to resort to natural resolution. An unexpected monetary policy response is possible with the Fed still sporting the most forgiving yield and the global presence. Yet, it is likely that the markets would respond with little enthusiasm to a simple rate cut. Among the already deflated central banks, a coordinated rate cut would be the most loaded move. Fiscal response remains the most potent tool still available. Italy plans to increase its spending, the UK has added capital in its budget and the German Chancellor indicated that a targeted balance sheet would not prevent economic support. Here too a global response would be the most viable approach.

Chart of US 10yr to 3mth Treasury Yield Curve Over Copper in Green (Daily)

Chart Created on Tradingview Platform

Keep Very Close Tabs on Liquidity

Through the final trading day of the week, there are key technical levels in view, high level event risk and anticipation of outside support. However, the market’s overriding motivation will likely depend on higher level matters. Liquidity is the foundation that the markets are built upon, and there seems to be some problems developing in the functioning of system. We have seen the demand for government bonds surge as an indication of extreme de-risking. Another market signal that I’m placing greater focus on is the divergence in performance between gold and the US Dollar. Both are considered safe havens in their own right. However, the precious metal reflects a greater demand for diversifying capital away from ‘fiat’ assets which is a side effect of over-indulgent monetary policy that devalues currencies. If the appetite flips back to a Greenback that is being actively suppressed by active bond buying and last week’s rate cuts with expectations for much more, there must be an extreme demand for liquidity.

Chart of DXY Dollar Index Overlaid with XAUUSD Gold Prices (Daily)

Chart Created on Tradingview Platform

While we see the stress in the financial system, there are signals of actions being taken by key players in the markets that seem designed to avert crisis-level conditions. The New York Federal Reserve this past session announced $1.5 trillion in various maturity (3-month and 1-month) lending that seemed an effort to plug holds. The question is whether this is preemptive or a response to stress in a financial institution/s that we are just not aware of yet. Traders should be mindful that it could be the later. That was the case back in 2008.

If you want to download my Manic-Crisis calendar, you can find the updated file here.

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