Markets are complex adaptive systems. Therefore it is virtually impossible to discern the collective wisdom of countless investors with diverse perspectives to pinpoint what is moving markets at any given moment. That's why I am skeptical when a talking head on CNBC or Bloomberg TV says with certainty that X is moving the markets.
That said, I gave it my best shot by highlighting a number of factors that I believe are impacting markets of late.
The key risk in my mind is that markets are signaling a monetary policy error committed by the U.S. Treasury Department and the Federal Reserve. A weak and unstable fiat dollar has wreaked havoc across the globe during most of the past 15+ years as demonstrated by the misallocations of capital (i.e., malinvestment) to housing and the production of raw commodities such as crude oil, copper, and iron ore. "Money illusion" drove all manner of capital investment literally into the ground and away from concepts that would result in true wealth creation. Pundits believed that many commodities were becoming scarce when the real answer was the currency that commodities are predominantly priced in, the U.S. dollar, was being devalued.
The "financial crisis" of 2008 and the current ongoing recession within the energy and basic materials sectors would never have occurred under a stable dollar.
The rapid strengthening of the dollar over the past few years, as measured by the fall in the price of gold and decline in the value of the CRB Index, has crushed commodity prices. Additional investment in the production of many commodities can no longer be justified at current prices. Investments in infrastructure and labor made when prices were much higher are no longer viable. Massive capital spending cuts and worker layoffs continue to be announced. If prices persist at current levels, a rising number of bankruptcies is likely to follow. The market must cleanse itself from the result of poor investment decisions.
A second possible reason is developing risks of another European banking crisis brought on by the European Central Bank's (ECB) negative interest-rate policy (NIRP) as well as the refusal of the European political class to implement pro-growth economic policies to stimulate moribund economies.
Third, some claim that sovereign wealth funds (SWFs) of resource-based countries such as Saudi Arabia and Qatar are putting selling pressure on equities as they raise cash to plug huge budget gaps created by the decline in the price of oil.
I was pleased to see that this week's edition of Barron's highlighted yet another reason I presented to clients for the volatility and fear in markets. One that seems to fly under the radar of most commentators. It is the impressive rise of two unconventional presidential candidates in Donald Trump and Bernie Sanders.
John Tamny also made this case in a provocative article a few weeks ago at Forbes Opinion.
As Barron's writes,
The rise of outsider presidential candidates Donald Trump and Bernie Sanders is more than a fascinating political story. Their ascendancy—Trump’s in the Republican Party, and Sanders’ among Democrats—could be one more reason why stock markets are under pressure and could remain so for awhile.
Many market pundits are too focused on the latest Chinese economic data, oil-price movements, or negative-interest-rate chatter to connect the dots between the presidential-primary results and the stock indexes. By taking such a traditional view of market-moving developments, they might be overlooking a story that is leading news reports every day and night.It is clear that the electorate is fed-up with the establishment of both major parties. Establishment Republicans are seen as spineless and unwilling to take a stand against President Obama's agenda. Meanwhile, Democrats are not exactly enamored with the Clinton Machine. The Democratic Party has turned decidedly to the left in recent years and Hillary simply doesn't excite the base. There is also growing unease with her possible legal problems if (and when) the Department of Justice finally decides to recommend she be indicted for crimes related to her mistreatment of state secrets and the use of a private server to hide communications from the public eye.
Both Trump and Sanders are candidates that have generated the most excitement among the base of their respective parties (note: Sanders is not a registered Democrat but caucuses with them as a member of the Senate. He labels himself a democratic socialist.)
The problem with both is that their policies, if implemented, would be a disaster for the U.S. economy.
Trump may be a relatively successful businessman, but he is an economic illiterate. His signature issue is trade. He believes trade with China and Mexico is "killing us" and would seek to implement massive tariffs on imports. This could easily lead to a replay of the disaster that was the Smoot-Hawley tariff in the 1920s. Other anti-growth stances include tighter restrictions on immigration and the possibility that he would govern as a rogue, with little patience (like Obama) with the separation of powers.
Sanders thinks the federal government is too small and doesn't spend enough on entitlements. Therefore, he has proposed a single-payer health care system, free public college tuition, and massive income tax increases on the wealthy. He also wants to "crack down" on Wall Street for perceived kid-glove treatment by the feds in the wake of the previous recession.
Of course even if Trump or Sanders is elected doesn't mean that his agenda will be implemented carte blanche. The House of Representatives is widely expected to stay under GOP control. The Senate is a toss-up and would likely lean toward the party of the winning presidential candidate. Fortunately, divided government is generally a positive for markets because it tends to derail an ambitious chief executive.
Even if Trump were elected with a GOP-controlled House and Senate, it is difficult to imagine a relatively conservative House leadership willing to go along with Trump on starting an all-out trade war with China.
Betting markets indicate a Trump v. Clinton matchup with Clinton still the overwhelming favorite to win. But a lot can happen between now and November. If Clinton is indicted, I believe that all bets are off.
Therefore, it appears investors should gird themselves for more volatility in the weeks ahead.
