August is the baddest month on financial markets, will history repeat?

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Had TS Elliot studied global markets more closely one of the masterpieces of 20th century literature may have started with “August is the cruelest month”, rather than nailing April with the distinction.

This week in finance:

  • US-China restart talks over trade on the same day both countries impose new tariffs on each other (Tuesday)
  • US Fed hosts world leading central bankers at Jackson Hole, Wyoming (Friday)

August through to October has long been regarded as a volatile time on markets, but recently August has often been waste land for investors, so to speak.

  • August 1998: Russia defaults no debt obligations, rouble dives as do markets
  • August 2007: First redemption freeze of US sub-prime crisis occurs, worse is to follow
  • August 2015: Chinese currency devalued and Wall Street “flash crash”

It’s August 2018 and there’s nothing yet, but there are a number of issues that have markets on edge.

“Three countries make the watch list as possible generators of systemic risk — China, Italy and Turkey,” JP Morgan’s head of cross asset strategy, John Normand, told clients at the weekend.

Could we be caught in Turkey’s crisis?


Turkey’s currency is tanking. So what’s behind the meltdown and who does it affect?

“Whether risks become reality depends on policy choices to be made soon around US-China tariffs, the Italian budget and Turkey’s overall framework,” Mr Normand said.

The closest thing to a cataclysm in the first half of the month has been some decidedly wobbly emerging markets.

Emerging market stocks are in “bear” territory, the Turkish lira and Argentina’s peso have been hammered.

China is experiencing its own mini-tech wreck, while the South African rand, Russian rouble and Indian rupee are floundering.

August is the cruellest month

The graph shows maximum peak-to-trough declines each year in August on the S&P500, a basket of emerging market currencies and “macro” hedge funds.

So are markets trudging to the next crisis?

“There is no definition of what constitutes a systemic crisis, but this analyst thinks of it as an event or process that triggers high-volatility declines in all asset classes and in all regions,” Mr Normand said.

“Contagion stems from the following conditions: a sovereign, corporate or bank is highly-indebted; it is representative of others; or it is well-integrated into the global economy through trade and financial links.”

Thailand in 1997 with its large current account deficit and a mountain of foreign denominated short-term loans and Greece 2009, also with a huge foreign debt, weak banks and a large government deficit spring to mind as templates for what could spark the next crisis.

Currently, the ever-strengthening US dollar is putting the squeeze on all emerging markets, given that it is the denomination their debt has been racked up in.

Emerging market equities hit a 12-month low last week, while base metals — a fair proxy for future global growth — are at an 18-month low.

Just how much these markets can be squeezed before something breaks is the question.

China, Turkey and the US

There are few trigger points next week.

The next batch of mutual US-China tariffs come into force on Tuesday and Wednesday.

The good news is at least the two sides are talking with a US delegation lobbying in China on Tuesday for two days of discussions.

Turkey’s markets will be shut for the week as the country marks the end of Ramadan with the Eid al-Adha celebrations.

The only thing that is likely to happen over this time are more US sanctions.

What happens when market re-opens is anyone’s guess, but the lira fell another 3 per cent on Friday as US President Donald Trump raised the rhetoric in demands for the release of the evangelical pastor Andrew Brunson from house arrest.

“They should have given him back a long time ago and Turkey has, in my opinion, acted very, very badly,” Mr Trump told reporters at the White House.

“So, we haven’t seen the last of that. We are not going to take it sitting down. They can’t take our people.”

A downgrade of Turkey’s credit worthiness deeper into “junk” territory from two big ratings agencies, Moody’s and Standard & Poor’s, on Friday didn’t exactly jolly things along.

Further west up the Mediterranean, the new Italian Government keeps proposing budgets with whopping deficits, putting it in the rating agencies sights as well.

That means borrowing costs in Italy are likely to rise too, but not immediately.

So the way things are going it could just shaping up to be a typically volatile August, not a shocker like 1998, 2007 and 2015.

Wall Street  holding up

Markets tilted higher on Friday as optimism surrounding the resumption of talks between the US and China this week outweighed the swan-dive from the lira in Turkey.

The positive mood looks likely to flow through to the local market with ASX futures trading pointing to a solid rise on opening.

 

 

 

By business reporter Stephen Letts ABC Australia

 

 

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