The direction of key factors such as the USA election, corporate profits, and interest rates is difficult to predict, leaving the market struggling between hedging against declines and continuing to chase highs.
Stock investors are facing a series of unpredictable event outcomes and confusing market signals, maintaining patience and composure seems to be a valuable quality for them to navigate through the noise.
With the tense situation in the U.S. presidential election, the European earnings season turning around after a slow start, and unsettlingly rising bond yields, the market seems to be torn between hedging against declines and continuing to chase highs.
The momentum of benchmark stock indices is cooling off, but there is no clear turn to the negative side, nor are there signs indicating that the current consolidation is evolving into a deeper correction.
Investors also have a hard time getting hints from sector performance. Large technology companies have recently experienced volatility, causing the stock market to lose its strong upward momentum. Lower-quality parts of the market, such as unprofitable tech stocks and heavily shorted stocks, have underperformed. Stocks benefiting from inflation and stagflation, as well as to some extent pure economic growth, are leading the gains.
The volatility of the U.S. stocks has recently increased. Although most of the record highs in the S&P 500 index this year occurred when the VIX index was low, the recent record highs set in the past few weeks have been accompanied by greater price swings. This may not necessarily be something to worry about.
Strategists at Tier 1 Alpha state: "Periods of intensified volatility in a bull market may not necessarily cause concern, but rather indicate that the rebound is becoming more mature."
This paves the way for a potential rebound, which will depend on the outcome of some ambiguous events, with the most important being the USA election. History indicates that volatility should decrease in the final days before the November 5th vote. However, at present, uncertainty seems higher than ever before.
"Most importantly, it will only be clear which policies will be implemented after the election. Apart from election rhetoric, consideration should also be given to whether Congress will agree to enact these policies," wrote Monica Defend, Chief Strategist at Orient Hontai Capital.
At the same time, corporate earnings are steadily improving. The first super Thursday of the European earnings season concluded with approximately 1.4 trillion euros (1.52 trillion dollars) in stock market value reported.
Strong performances reported by Hermes International SCA and Unilever Plc indicate that there is still good news coming from the luxury goods and consumer goods sectors. From a broader perspective, analysis shows that despite facing revenue challenges, companies are still generating profits.
Investors have been eager to reward strong-performing companies, without overly punishing underperforming companies. Christoph Mertens, Portfolio Manager at Fuerst Fugger Privatbank AG, stated that the low threshold creates room for surprises, "Some companies have been able to take advantage of this."
Marc Decker, Co-Director of Stock Business at Merck Finck, pointed out that 74% of American companies have outperformed expectations, while about half of European companies have also exceeded expectations. The key pillar of profitability (equally difficult to determine) is data from large technology companies.
"The stock prices and valuation multiples of these companies are undoubtedly considered quite high. Investors' expectations are also so," Decker said. He mentioned that although some are looking for alternatives outside of large technology companies, this rotation away from the sector has not fully developed yet.
Given this, market trends are still event-driven, with traders digesting one headline news after another, the market may remain volatile. Hedge fund investors' positions may limit the extent of losses, but the unknown impact of financial reports, the US election results, and interest rate trends could make the situation confusing by year-end.
In this scenario, Mertens recommends staying optimistic but diversifying investments fully. He mentioned that investors should keep cash on hand for potential opportunities as there are bound to be some big moves in the next few days.
