On Monday, Morgan Stanley’s equity strategist Hans Redeker made an ominous observation: highlighting the decline of easy monetary policy and the rapid shrinkage of central bank liquidity…
… Redeker noted that the recent spike in bond volatility has been mostly a side-effect of the receding monetary tide.
Why the focus on bond volatility, i.e., the MOVE Index? For one reason: while rising FX and equity volatility can remain isolated events, rising bond market volatility tends to steer other volatility indices too, Redeker said. Hence, rising bond volatility makes a difference when volatility for risky assets diverged on the back of liquidity concentration in the US.
This led him to conclude that “in many aspects, the current constellation reminds us of what happened in autumn 1987”, which we recalled as follows:
The Fed was hiking rates, deploying a hawkish tone. Chair Greenspan had just taken office, providing hawkish rhetoric, and the global economy seemed to trail the better US performance supported by the second Reagan tax package kicking in in 1986. The consensus assumed the rest of the world (RoW) – notably Europe – was running wider output gaps and hence was surprised when the Bundesbank withdrew liquidity in September 1987. In this sense, we would not dismiss hawkish remarks from ECB’s Knot, who said that ECB rate hikes could come earlier than markets are expecting.
Just two days later, and the Dow over 1,400 points lower, it appears Redeker was on to something.
But not everyone agrees. As Bloomberg’s latest macro commentator John Authers, who recently joined from the FT, writes in a note tonight, whereas there is a growing chorus that the market may be coming up against it own Black Monday moment – and historically half of the biggest market crashes in the US have taken place in October which is statistically significant…
… Authers believes that despite the growing concerns, it’s not really quite as dire as what Morgan Stanley suggests.
He explains why in the note below.
The Hunt for Another Red October
It is not such a crazy idea. The elements of a narrative that finds a parallel between the alarming sell-off in equities over the last few days and the epic disaster that was the Black Monday crash of October 19, 1987, do exist.
Then, like now, stocks had been rising despite a menacing rise in bond yields. Then, like now, there is a new and untested …read more