To The Moon

The improving macroeconomic environment, marked by lower inflation, reduced interest rates, and the absence of a recession across major economies, continues to support sentiment. Investors in Global Developed Markets are becoming bullish, while those in Global Emerging Markets and Asia ex-Japan are turning positive. However, sentiment in Japan, China, and the US remains affected by the uncertainty of their local political situations, including elections in Japan and the US, and the size of an eventual stimulus in China. Meanwhile UK investors remain bullish about their prospects.

Japan: Investor sentiment in Japan declined from bullish to positive last week, ahead of the weekend’s general elections. The ruling LDP party’s newly elected leader and Prime Minister’s gamble backfired, with the LDP losing its majority in parliament for the first time since 2009. No single party has won a majority, leading to political uncertainty until the LDP can form a ruling coalition with minor parties. This situation is expected to continue to weigh on investor sentiment this week.

China: The lack of an announcement regarding the date of the next NPC Standing Committee meeting continues to unsettle investors. Typically held in late October and announced a week in advance, the delay may be due to authorities waiting for the results of the US Presidential elections, as their response to the economic slowdown will depend heavily on these results. The lack of communication is increasing urgency among investors, whose expectations for the stimulus package are growing daily. Recent data showed the worst decline in profits since the pandemic downturn, with SOEs being the main drag. Investors now expect a substantial stimulus package to be satisfied.

The US: Five of the Magnificent 7 are reporting this week. Beyond their significant impact on the S&P 500 in terms of weight and risk, the ‘Magnificent 7’ are also driving an unprecedented level of earnings concentration, distorting valuation at the benchmark level.

“In aggregate, the ‘Magnificent 7’ companies are expected to report year-over-year earnings growth of 18.1% for the third quarter. Excluding these seven companies, the blended (combines actual and estimated results) earnings growth rate for the remaining 493 companies in the S&P 500 would be 0.1% for Q3 2024. Overall, the blended earnings growth rate for the entire S&P 500 for Q3 2024 is 3.4%” (Factset).

With only eight days left until the election, the two candidates, each presenting vastly different visions for the future, are neck-and-neck in the polls. This indecision is mirrored in investor sentiment, which ended last week with a perfectly neutral ROOF Score of 0.0. Unless there are negative surprises in earnings or further political violence before the election, investors are likely to remain as undecided as voters in the near term.

According to an average of 412 polls, approximately 65% of Americans believe the country is heading in the wrong direction and want change. Regardless of the election outcome, it is likely that half of the population will feel that democracy in America is broken.  Perhaps this sentiment is best captured by the tagline from Dennis Hopper’s 1969 movie, Easy Rider: “A man went looking for America, and he couldn’t find it anywhere.”

Restoring voters’ trust in democracy is a task that will extend beyond this election. Both domestic and international issues can be traced back to a lack of global leadership, which is likely to impact investor sentiment beyond 2024.

Potential triggers for sentiment-driven market moves this week[1]

• US: . Q3 GDP growth estimate, non-farm payrolls, unemployment rate, manufacturing PMI, consumer confidence, PCE inflation, and personal spending and income data. Biggest week in the quarterly reporting season, with earnings from Alphabet, Apple, Microsoft, Meta, Amazon, Visa, Mastercard, McDonalds, and Exxon among a slew of other mega caps.

• Europe: Inflation and GDP growth data for the Eurozone, and German consumer confidence data.

• APAC: China manufacturing PMI data. Japan consumer confidence data and BoJ interest rate decision.

• Global: Mega-caps earnings int eh US, politics in Japan, China, and the US.

[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:

·        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).

·        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).

·        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:

·        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.

·        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.