The week with the largest fluctuation since 2019

This week's US stock market showed fluctuations like a roller coaster, despite closing roughly flat for the week. Panic selling occurred on Monday, followed by a strong rebound on Tuesday, another drop on Wednesday, a bottom-fishing sentiment triggered by unemployment data on Thursday, and a continued rebound on Friday, albeit with weakened momentum.

In the past week, the stock market and the cryptocurrency market have been highly correlated. There is much media discussion about the U.S. recession and the unwinding of yen arbitrage trades, but this may be a "pseudo proposition." The real panic was very short-lived, and there was no typical phenomenon of broad sell-offs that occurs during a crisis.

After a sharp decline in U.S. stocks on Monday, there was about a 4.5% peak-to-trough Fluctuation, marking the largest extent since 2019. This Fluctuation signifies both risk and opportunity. The sell-off during Monday's trading may be an overreaction, primarily due to:

• Most U.S. economic data performed well, with only a few indicators supporting recession theories.
• The growth of corporate profits is steady, but the extent of exceeding expectations has not widened.
• Continuous interest rate hikes in Japan are impossible due to massive debt that cannot be digested through economic growth.
• The unexpected interest rate hike triggered the liquidation of high-leverage positions, effectively ending on Monday.
• The trends in the fixed income and foreign exchange markets dominated by large institutions do not exhibit characteristics of panic.

Therefore, it is judged that Monday may be a short-term overreaction. However, further observation of data changes is still required, as funding preferences have not fully recovered. Unless Nvidia's earnings report once again exceeds expectations and boosts industry sentiment, the Dow Jones and S&P may outperform the Nasdaq in the short term. The cyclical sectors have recently underperformed, and a larger short-term rebound cannot be ruled out.

Goldman Sachs clients made significant purchases of technology stocks last week, with trading volume reaching a five-month high. The rise in bond prices provided a buffer against the decline in the stock market. The yield on 10-year U.S. Treasuries fell from 4.5% to 3.7% within a month, a decline that exceeds changes in interest rate cut expectations. Unless clear signs of recession are seen, this pricing may be excessive.

The current round of stock market adjustments started from a historical high, with a maximum decline of 8%, and is currently still 12% higher than at the beginning of the year. The impact on diversified investors is relatively limited. On average, over the past few decades, there have been 3 adjustments of more than 5% and 1 adjustment of 10% each year. If there is no economic or corporate profit recession, stock market adjustments are often temporary.

However, the pessimistic sentiment towards tech stocks is difficult to reverse in the short term, and the severe Fluctuation has caused damage to many portfolios. There is a demand for reallocation of funds in the medium to long term, and short-term volatility may still not be over. The strong rebound in the second half of last week is a positive sign.

According to statistics from JPMorgan, based on the relative historical adjustment magnitude of various assets, due to the significant decline in metals, a substantial increase in government bonds, and a smaller decline in stocks, the recession expectations reflected by the government bond and commodity markets are actually greater than those of the stock and corporate bond markets.

91% of companies in the S&P 500 index have released their Q2 earnings reports, with 55% exceeding expectations. Although this is lower than the average level of the past four quarters, it is still above 50%. There is significant variation in performance across sectors, with healthcare, industrials, and information technology performing well, while energy and real estate are relatively weaker.

NVIDIA's valuation has already retraced, with the 24-month forward P/E ratio dropping to 25 times, close to a 5-year low. The premium over the S&P 500 has decreased from 1.8 times to 1.4 times, making the valuation more reasonable. The tech giant's earnings report this season is solid, with no significant decline in performance; the decrease in valuation is mainly due to increased AI investments.

Regarding the expectation of interest rate cuts in September, JPMorgan's research calculates that the Federal Reserve's target interest rate should be around 4% based on the Taylor rule, which is 150 basis points lower than the current rate. The Federal Reserve has reason to quickly adjust its policy to align with economic conditions. The market currently expects a 38 basis point rate cut in September, totaling a 100 basis point cut for the year. Continuous deterioration in data, especially employment data, is needed to support more aggressive rate cut expectations.

The crypto market has experienced its sharpest pullback since the FTX crisis, with Bitcoin's price dropping over 15% before recovering. This pullback was triggered by adjustments in traditional markets, not by internal crypto events. The technical indicators are severely oversold, approaching levels seen on August 16 of last year.

Retail investors play an important role in this adjustment. The outflow of funds from Bitcoin spot ETFs increased significantly in August, reaching the highest monthly outflow since its inception. In contrast, the de-risking behavior in the U.S. futures market is limited, with little change in CME Bitcoin futures contracts' open interest, and the contango in the futures curve indicates that futures investors remain optimistic.

Bitcoin touched a low of around $49,000 last week, close to the production cost estimated by JPMorgan. If it remains at this level or below for a long time, it will put pressure on miners and could trigger further downward Fluctuation.

Several factors keep institutional investors optimistic: Morgan Stanley allows advisors to recommend Bitcoin spot ETFs, the liquidation pressure from the Mt. Gox and Genesis bankruptcy cases may have passed, FTX bankruptcy payouts could stimulate demand by the end of the year, and both sides of the U.S. election may support favorable crypto regulation.

Capital and Position

Despite the recent decrease in stock allocation due to price declines and increased bonds, the current allocation ratio (46.5%) is still significantly higher than the average after 2015. To return to the average level, stock prices need to decline further by 8%.

The extremely low cash allocation ratio for investors indicates that funds are more concentrated in stocks and bonds, which may increase market vulnerability. Recently, bond allocations have significantly increased as investors turn to bonds for hedging during the stock market correction.

Retail investors have reacted relatively mildly, with no large-scale withdrawals. The sentiment survey for retail investors remains relatively positive. Changes in Nikkei futures positions indicate that speculative investors have significantly reduced their long positions. Speculative net shorts in the yen have essentially returned to zero as of last Tuesday.

The yen arbitrage trading mainly includes three parts:

1. Foreign investors purchase Japanese stocks and short an equivalent amount of yen, totaling approximately $600 billion.
2. Foreign investors borrowed yen to invest in overseas assets, approximately 420 billion dollars at the end of Q1 2014.
3. Japanese domestic investors purchase overseas assets in yen, approximately $3.5 trillion before adjustment.

The total scale is estimated to be around 4 trillion dollars. If inflation in Japan forces the central bank to raise interest rates, such transactions may gradually decrease.

Recent strategy adjustments by different types of investors:

• Trend Follower ( such as CTA ) significantly reduced their stock longs and shorted yen.
• The overall yen arbitrage trading has not been significantly unwound.
• Risk parity funds reduce investments, but to a lesser extent than CTAs.
• Ordinary retail investors withdraw less

Since the end of May, China-themed funds have continuously attracted passive capital, with an inflow of 3.1 billion USD this week. Despite market fluctuations, equity funds have seen net inflows for 16 consecutive weeks, even higher than the previous week. Bond fund inflows have slowed down.

Subjective investors and systematic strategy allocations have both dropped from high levels to slightly below the average, marking the first time since last summer's major correction.

The VIX index experienced a single-day fluctuation of over 40 points on Monday, setting a record. However, considering that the overall market fluctuation was less than 3%, Goldman Sachs believes this reflects a volatility market shock rather than a stock market shock, and expects the market to remain turbulent before the VIX expiration on August 21, (.

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Goldman Sachs clients had net sells of product funds for the third consecutive week last week, while individual stocks saw their largest net buying in six months, particularly in the technology, consumer staples, industrial, communication, and financial sectors. This may indicate that if economic data is optimistic, investors may shift their focus from overall risk to individual stock opportunities.

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The liquidity of the U.S. stock market is at its lowest level since May of last year. The Bank of America CTA strategy model shows that in the coming week, U.S. stock CTA funds are inclined to increase their positions, as the long-term trend remains optimistic, and they may quickly rebuild their long positions after the stock market stabilizes. In contrast, Japanese stocks tend to reduce their positions.

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Upcoming Key Events

• Consumer Price Index ) CPI (: If it meets or is below expectations, the impact is limited; if it exceeds expectations, it will be a significant issue.
• Retail sales data: if strong, may boost soft landing expectations
• Jackson Hole Meeting: The Federal Reserve is expected to convey supportive messages to the market and may mention tightening financial conditions.
• Nvidia earnings report: to be released at the end of the month, market expectations are positive