…and this one, characterised by unusually calm and stable markets, is, so far, different. It’s also the first August in 10 years (apart from 2003) when Treasury yields have increased, as opposed to decreased. Quite a shock. However, it’s not over, until it’s over and a couple of things concern us.
Looking back this looks very much like a ‘false’ rally, built on low volumes in illiquid, whippy markets characterised by a lack of direction. Looking forward, one way to use volatility indices is as gauges of complacency. Anchored at multi year lows, this sends a red alert warning and market complacency could well be shaken by an Indian summer as returning investors start to demand answers to outstanding questions.
The main questions still relate to the ECB. What are the specifics of the bond buying plan? What does the ECB actually mean when it says it will give up seniority? How is seniority defined? In a sense, all these questions are also academic as the ECB have made it clear that assistance will only be forthcoming when a country has requested assistance. With peripheral bond yields continuing to decline on a daily basis what will be the catalyst for weaker Eurozone countries to request assistance? As peripheral government bond supply restarts in September investor tolerance with a lack of clarity is likely to be tested. With valuations having already moved to multi year highs for risk assets our sense is that patience will be rewarded and markets could well wobble yet.