Momentum in global markets is extremely stretched – ANZ

Analysts at ANZ suggest that their Global Market Sentiment Index remains above one, suggesting that momentum in global markets is extremely stretched as the current run in risk appetite has also been exceptionally sustained – with almost 250 days of consistently above zero risk appetite readings.

Key Quotes

“Similarly, volatility across both assets and bonds remains extremely low - with the VIX and the MOVE both at levels close to the 1st percentile.”

“This combination of exceptionally low volatility and stretched momentum, that we are observing today, has occurred three times in the past: 

• In 2007 right before the global financial crisis.
• In early 2013 before the Fed signalled it was going to taper its asset purchase program;
• In late 2014 just prior to the Fed intensifying its tightening bias.”

“Notably, during each of these periods, polarisation was also rising gradually from very low levels, just as it is today. Indeed, polarisation tends to move with shifts in global central bank liquidity as the latter often drives broader ‘regime shifts’ in the global economy.” 

“In this context, the recent uptick in our polarisation regime indicator (coming at a time when the market is beginning to focus on the turn in global liquidity) may indicate the start of a broader, more sustained, rise in both inter- and intra-market correlation in the period ahead. This correlation can manifest itself as both risk-on and risk-off behaviour.”

“This means that while we are starting to see the building blocks of a higher volatility regime, this process is slow. Indeed at this stage, the level of both growth and macro liquidity remain elevated and thus supportive of risk sentiment. On the liquidity front, the Fed’s decision to unwind the balance sheet – along with the tapering in the euro area and a more hawkish turn in a number of other major central banks – will reduce the amount of official liquidity over the coming year. For now, however, this shift in momentum will be offset by the high absolute level of liquidity and so its impact should be slow to manifest itself in volatility.”

“The current ‘goldilocks’ growth environment is also underpinning the positive risk sentiment. The outlook for global growth remains bullish. This is highlighted by the fact that the forward looking ‘New Orders’ component of PMIs is above 50 for all countries for the first time in the post-GFC period. In addition, our Global Economic Advanced Reading Index –which is a leading indicator of momentum in global growth – is signalling that this positive pulse is likely to be sustained for some time. Meanwhile, signs of rising inflationary pressures remain absent. While the ongoing reduction in spare capacity across the world seemingly suggests we should see some inflation going forward; we are unlikely to experience a sustained surge anytime soon.”

“Overall this means that volatility should remain low and market sentiment well supported (as long as the combination of high growth and low inflation persists). In this environment of rising correlation and lower risk we think that cyclical currencies can perform. However, on a longer-term basis (if history is any guide) the progressive unwinding of liquidity – and the consequent rise in volatility we are likely to see - means the second half of next year will be a challenging one for markets as they become increasingly leveraged into the positive-growth environment.”