European markets steady after ugly tech selloff

Morning Note

Ugly, ugly, ugly. That could be the description of yesterday’s brutal sell off in tech stocks which led a broad market decline. The selling in some of the big tech darlings yesterday was spectacular: Tesla –9%, Apple –8%, Microsoft –6%, Zoom –10%. The Nasdaq settled down -5% for the day but off its lows and it’s only back to where it was last week, which simply shows what an extreme melt-up it’s been. The S&P 500 closed down -3.5%.

Ugly is the only word.

US Presidential election gets messy

Ugly is also the description of the general state of the economy and politics in the US and, arguably to a somewhat lesser extent, the U.K. The US presidential battle is getting nasty as hell. We should have expected this – it will likely get much worse. But the implications for the market need serious consideration.

I worry there is an increasingly grave risk the election result is contested to a point where the concept of a smooth handover of power is tested – well beyond ‘hanging chads’. American democracy is in peril and this should worry us all.

Neither Democrats nor Republicans have covered themselves in glory thus far and the fighting will only become more acrimonious. The election is now by far the most serious risk to markets in that it could fatally undermine faith in the American system that has underpinned the West for 80 years.

Will today’s US NFP disappoint?

Meanwhile the US economy remains in serious trouble. Jobless claims remain exceptionally high. Although yesterday’s initial claims was better the only stat that really mattered after the Department of Labor changed the way it measured things was this: The total number of people claiming benefits in all programs for the week ending August 15th was 29,224,546, an increase of 2,195,835 from the previous week.

Today’s nonfarm payrolls – expected at +1.375m – may well surprise to the downside, as the ever-insightful Christophe Barraud argues in his blog. The U.K. economy is hardly in better shape with the furlough scheme setting up the prospect of a wave of unemployment.

Whilst this is happening, all the central banks can do is further inflate the bubble. Yesterday’s sell off was about excessive buying in a handful of stocks, bad money in the markets chasing an ever-decreasing number of stocks, and a volatility skew that told us things were not right and heading to a rollover.

Excessive call option volumes leading to market makers needing to buy the underlying stocks seemingly chased the markets higher, but retail buying has played a strong part too. It’s all been rather unseemly and a correction is required – there may be further to run lower ahead of the election as risk ramps up.

We’d been worried by spiking Vix futures whilst the market was making all-time highs and so it proved to be a red flag. The question longer term for this market is whether we should be confident earnings will recover. That remains a problem, but not intractable –  a vaccine would help a lot.

On the interest rate side of the equation, the Fed remains on side and will keep rates on the floor – as discussed earlier this week, stretched valuations may not matter if the Fed is never going to raise rates.

European equities quickly recover after tech selloff hits sentiment

European equities were dragged lower by the tech-induced sell-off on Wall Street yesterday but recovered in early trade on Friday morning. With sentiment rolling over in the big US names, any rally may prove to be a selling opportunity.

Shares in Spanish banks Bankia and Caixabank shot higher on plans to merge, lifting the entire Spanish banking sector. UK house builders were under pressure after the Competition and Markets Authority (CMA) announced enforcement cases against Barratt Developments, Countryside Properties, Persimmon Homes and Taylor Wimpey.

The CMA said it found ‘troubling evidence of potentially unfair terms concerning ground rents in leasehold contracts and potential mis-selling’, adding that it is worried leasehold homeowners ‘may have been unfairly treated and that buyers may have been misled by developers’. Shares in the four accused dipped though TW recovered as of send time.

Vix futures, which we’ve been tracking higher with some trepidation as a sign of a toppy market, spiked. Oct futures settled above 38.

The weekly S&P 500 chart, which I said yesterday morning was starting to push the envelope to breaking point, looks a little different but still stretched.

FTSE 100 – last night closed at the 38.2% retracement level at 5850 before the selling in the US dragged the futures even lower. Higher this morning but susceptible to a pullback should the US selling continue for a second day ahead of the Labor Day weekend.