Last week, sentiment in the US and Europe improved from negative to neutral, lifting the mood of Global Developed Markets investors. However, sentiment in Global Emerging Markets and Asia ex-Japan remained bearish as investors awaited further clarification on the new US administration’s trade policies. Japanese investors stayed bullish, though less so than in previous weeks, and have struggled to convert this risk-tolerant sentiment into market gains for the past two months. In China, sentiment remained neutral ahead of this week’s annual Central Economic Work Conference (CEWC). UK investors also remained neutral, with sentiment dampened by uncertainty over the current PM’s low popularity and a lack of details on Trump’s plans for tariffs on UK exports.
The certainty brought by the US election results (a red wave) has paradoxically increased uncertainty for investors. They are now compelled to make semi-informed investment decisions with minimal data, sometimes relying on just a name (e.g., Paul Atkins). As for geopolitics, individual leaders have become islands, shouting threats to each other across seas of misunderstanding. The French government has collapsed, Germany’s ‘ist kaput’, the recently elected Prime Ministers of both the UK and Japan have popularity ratings that make them most likely to be eaten first in any lifeboat situation, and no one seems able to close Pandora’s box in the Middle East or Ukraine.
Welcome to the era of subjectivity – feel free to make it your own.
Currently, in the period between the US election results and Trump’s inauguration on January 21st, the paranoiacs seem to have it right - seeing conspiracies and hidden agendas connecting all the dots. RFK as Secretary of Health and Human Services? Sell vaccine makers. Paul Atkins as SEC Chairman? Buy Bitcoin. Talk of across-the-board tariffs? Overweight US and underweight Europe and the rest of the world. Nowadays, investors are making decisions based not even on book’s cover, but just the title.
Once Trump takes office and starts to govern, the nihilists might have their turn - that there is no signal in the noise, only chaos and randomness. His transactional governing style, combined with his aversion to silence and inaction, will create a continuous stream of risk events for investors to react to. Add to this a media industry focused on ratings and clickbait, which shifts politicians’ obligations from being right to simply being entertaining, and the growing use of social media as a primary information source, and you get an investment environment requiring a very short attention span.
Neither paranoia nor nihilism is a state of mind that investors can endure for long, but in this new era of subjectivity, they may be forced to repeatedly alternate between them. Meanwhile the low volatility readings (Vix below 13%!) make a mockery of the uncertainty level associated with current situation.
Potential triggers for sentiment-driven market moves this week[1]
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US: CPI and PPI data.
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Europe: ECB and Swiss National Bank interest rate decisions (-25bps expected for both). Eurozone industrial activity for October. Germany’s balance of trade. Romania’s Presidential runoff election.
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APAC: China CPI and PPI data and the annual Central Economic Work Conference (CEWC). RBA interest rate decision, unemployment and business confidence data in Australia. Japan Q3 GDP (final) and the Tankan report. Unfolding events in South Korea’s impeachment proceedings.
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Global: Further instability in the Middle-East. Any tweets from Donald Trump on Monday, and Tuesday, and Wednesday, and Thursday, and Friday.
[1] If sentiment is bearish/bullish, a negative/positive surprise on these data releases could trigger an overreaction.
Note: green background = bullish, red background = bearish
Changes to investor sentiment over the past 180 days for the markets we follow:
How to Interpret These Charts:
Top Charts:
The top charts illustrate the ROOF ratio, which represents investor sentiment. This ratio is depicted in green on the left axis, while the cumulative returns of the underlying market are shown in black on the right axis. Key reference lines include:
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A horizontal red line at -0.5 (left axis), marking the threshold between negative sentiment (-0.2 to -0.5) and bearish sentiment (< -0.5).
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A horizontal blue line at +0.5 (left axis), indicating the boundary between positive sentiment (+0.2 to +0.5) and bullish sentiment (> +0.5).
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A horizontal grey line at 0.0 (left axis), around which sentiment is considered neutral (-0.2 to +0.2).
Bottom Charts:
The bottom charts display the levels of risk tolerance (green line) and risk aversion (red line) within the market, representing investors' demand and supply for risk, respectively. Key insights include:
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When risk tolerance (green line) exceeds risk aversion (red line), more investors are willing to buy risk assets than there are investors willing to sell them at the current price. This scenario forces risk-tolerant investors to offer a premium to entice more risk-averse investors to trade, thereby driving markets upward.
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Conversely, when risk aversion (red line) surpasses risk tolerance (green line), the market dynamics reverse.
The net balance between risk tolerance and risk aversion levels is used to compute the ROOF ratio shown in the top charts, reflecting the sentiment of the average investor in the market.
Blue Shaded Zone:
The blue shaded zone between levels 3 and 4 for both indicators signifies a reasonable balance between the supply and demand for risk in the market. When both lines remain within this blue zone, the market is considered stable. However, when both lines move outside this zone, the significant imbalance in demand and supply for risk can lead to overreactions to unexpected news or risk events.
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