On August 5th, Caixin reported that most global market participants were asking a simple question: 'Why are people crazy about selling?'

Japanese stocks plummeted, U.S. stocks plummeted, and even the European and emerging market stock markets suffered significant blows. To this end, Goldman Sachs trader Lindsay Matcham listed a series of reasons that traders believe are pushing the sudden 'freeze' of global risk appetite from the perspective of a market participant last weekend.

The Japanese yield curve is flattening.

Last week, the Bank of Japan emphasized that actual interest rates were negative when it raised interest rates and opened the door to future rate hikes. The Japanese stock market initially cheered this news, and large bank stocks rose 4.50%. However, the local interest rate market began to paint a more bearish picture; the Japanese 2-year and 10-year bond yield (2s10s) curve began to sharply flatten, indicating that rate hikes and potential future rate hikes were priced as restrictions on Japan's economic growth and inflation, ultimately hitting the Japanese stock market.

The yen strengthened/Arbitrage liquidation. The recent sharp appreciation of the yen against the US dollar has triggered the liquidation of arbitrage trades, which is a self-reinforcing/negative feedback loop process - as stop-loss orders are triggered, previously over-expanded arbitrage positions are increasingly liquidated. When U.S. data was disappointing last week, the yen was sought after as a safe haven in the forex market, further deepening the trend and disrupting market positions and pricing, leading to a series of chain reactions in global risk assets.

Powell closely monitoring the labor market. Powell's speech at the Fed's meeting last week did not bring any real surprises. As expected, Powell hinted at a rate cut in September and retained the possibility of more rate cuts in the future, while also mentioning the vulnerability of the labor market. The market has shifted from extreme concern about inflation to extreme concern about economic growth - all eyes are on the labor market. Powell said he is closely watching whether the labor market will experience a larger decline, which keeps the market vigilant.

Expectations of a soft landing were impacted.

The economic recession of 2008 was caused by the accumulation of a large amount of private and household debt, but in this cycle, all debt was previously pushed by fiscal stimulus, and the central bank printed a lot of money to fill the gap created by the epidemic and tried to promote economic growth (these debts can be easily managed by the central bank), household and corporate balance sheets are relatively good. This allows interest rates to remain at high levels and to some extent explains why the economy has not had any problems despite the tightening financial conditions, as well as why the market has believed for some time that the economy will experience a soft landing. However, with the slowing of economic growth and inflation being left behind, the market has become extremely sensitive to negative data, coupled with the gradually highlighted potential lag effects of high interest rate environment on employment, growth and the economy, which is why we are beginning to enter an environment where bad news for the economy is bad news for the market.

Expectations of a soft landing were impacted.

The risk of an economic recession has increased, causing bond yields, inflation expectations, and the stock market to all decline without exception. The bull market for U.S. 2S10S bonds has steepened, gold has risen, and hedging costs for U.S. stocks have risen - the VIX index has soared, more rate cuts have been priced in the curve, credit spreads have widened, and the yen has strengthened.

The classic global macro hedge situation.

In 2008, the economic recession was caused by the accumulation of a large amount of private and household debt, but in this cycle, all debt was previously pushed by fiscal stimulus, and the central bank printed a lot of money to fill the gap created by the epidemic and tried to promote economic growth (these debts can be easily managed by the central bank), household and corporate balance sheets are relatively good. This allows interest rates to remain at high levels and to some extent explains why the economy has not had any problems despite the tightening financial conditions, as well as why the market has believed for some time that the economy will experience a soft landing. However, with the slowing of economic growth and inflation being left behind, the market has become extremely sensitive to negative data, coupled with the gradually highlighted potential lag effects of high interest rate environment on employment, growth and the economy, which is why we are beginning to enter an environment where bad news for the economy is bad news for the market.

Bad news is bad news.

The market believes that the Purchasing Managers' Index (PMI) for manufacturing is extremely important for economic trends, and last Thursday's U.S. ISM manufacturing index fell further to 46.8, well below the consensus forecast of 48.8, which panicked the market.

This can be deduced as: the ISM manufacturing index is in the recession zone + the US federal fund rate of over 5.25% = the soft landing atmosphere evolves into recession worries = a typical global macro risk aversion (Risk Off) sentiment followed.

The U.S. July unemployment rate, which was announced last Friday, further increased to 4.3%, while the market expected 4.1%, which pushed the further bull steepening of the U.S. bond yield curve. Currently, the market is pricing in a minimum of 4.4 rate cuts remaining this year, which has pushed gold even higher and the VIX index to a new high for the year.

The classic global macro hedge situation.

After the risk of economic recession intensified, bond yields, inflation expectations and the stock market all declined without exception. The bull market for U.S. 2S10S bonds has steepened, gold has risen, and hedging costs for U.S. stocks have risen - the VIX index has soared, more rate cuts have been priced in the curve, credit spreads have widened, and the yen has strengthened.

Due to the entry of the Japanese market into a safe haven mode and the further intensification of the tense situation in the Middle East, American investors do not want to hold positions before the weekend and there was a significant increase in safe-haven trades last Friday. As expected, the Israeli stock market plummeted on Sunday and on Monday, there was a sharp drop in Asian stock markets such as Japan and South Korea.

Interestingly, the US dollar has not been sought after by safe-haven bid in this round of market movements, as it was US data that largely drove the global macro-haven mode, further promoting the outstanding performance of safe-haven assets such as the yen and gold.

The OIS (Overnight Index Swap) market priced the US Federal Fund Rate at 3.20% after one year last Friday, which means a rate cut of about 200 basis points in the next year. This is a typical recession pricing as the Fed has averaged about 200 basis points of rate cuts in the 12 months before the recession.

Europe has fallen behind in advance.

Recently, following a series of bad PMI releases, Goldman Sachs has lowered its forecast for European economic growth. Since early June, the European market has no longer risen synchronously with other global indices, as the interest rates in Europe are still high compared to other global economies, and the weak economic growth is becoming increasingly apparent.

France is still a drag factor, as the spread between French and German bonds has widened again, according to Goldman Sachs trader Matcham, who wrote this article last Friday.

Trump Trading Fades

The US market had previously risen in anticipation of Trump's victory, with the best-performing stocks including financials, onshore producers and pushers of offshore outsourcing trends, US border infrastructure builders, energy, coal and steel producers.

However, with Harris joining the race, Trump's chances of winning have decreased, and Trump's trading has also been closed out. Markets do not like uncertainty, so as the probability of Trump's victory decreased, the competition became more intense and macro risk appetite weakened.

Comparison of S&P 500 Index and Goldman Sachs Republican Victory Outperformance Basket:

Comparison of S&P 500 Index and Trump's Victory Odds:

Conclusion: Which trades do Goldman Sachs traders currently think are bullish?

Finally, Lindsay Matcham said, "Most of the trades we have been investing in before, we still think are bullish and are playing a role in the market's sharp drop last week." The trades he previously favored include:

Buy V2X (European Volatility) September/October/November futures bets on US election volatility risk premium;

Short German DAX index positions to hedge against tariff risks considering the global economic growth risk;

Short stocks of the EU facing tariff risks.

In addition, Matcham is currently bullish on the following effective trades to hedge against negative results and potential Trump tariffs:

Betting on steepening of the yield curve between 2-year and 10-year US Treasury bonds.

Betting on widening of the German bund yield spread.

Betting on widening of the credit spread.

Going long on gold.

Going short on oil prices.

In summary, a range of market factors are driving the following situations:

The hawkish attitude of the Bank of Japan has led to a strong yen and closing of carry trades;

A new bad economic news is the bad news for the market environment―long-term high interest rate environment is infecting the data;

The European risks caused by slowing economic growth will continue to be released.

Editor/Lambor