(Beijing)

If we think the trade war is being rough on our markets, just take a look at China. The country’s benchmark Shanghai Index is down 22% since its peak in January, and the yuan is dropping as well. In addition to Trump’s rhetoric and the threat of a trade war, China is also seeing weakening domestic economic data.

FINSUM: China is a lot more exposed to the trade war than the US. It has less broad and deep financial markets, so there are not as many places for investors to hide, and its economy is much more export-reliant, making it more vulnerable to tariffs.

(New York)

One of the biggest arguments of the junk bond market is this: one needs to be careful of junk bond indexes because they automatically skew investors to the companies with the most debt, making portfolios inherently more risky. The argument has a seemingly sound logic which is similar to the “skew” often referred to in equity ETFs. However, the reality is the complete opposite, as the companies with the most debt actually tend to be larger and have more conservative levels of leverage. The larger companies with the highest total debt in the high yield market tend to have lower default rates, so there is actually no correlative relationship between more debt and higher risk. The analysis is from S&P Global Market Intelligence.

FINSUM: This is very useful analysis, because the more debt = more risk fallacy is an easy-to-fall-into mental trap.

(New York)

The Volcker Rule was one of the more divisive aspects of the Dodd-Frank legislation. The rule virtually outlawed proprietary trading, but arguably led to less liquidity, especially in fixed income markets. Now the rule has been partially pulled back, and there are is a view to gutting it entirely, but some warn about the dangers of doing so. According to the Financial Times, there are big risks to repealing the rule as it would arguably bring back the casino mindset that dominated big bank trading before the Crisis.

FINSUM: Banks are doing very well and the trading system has operated quite smoothly since the introduction of the Volcker Rule. We see no legitimate reason to overturn it.

(New York)

Investors need to take notice, a bear market is arriving. Trade wars and rising rates have been plaguing equity markets, and US indices seem to have already seen their peaks. But while the US market is still holding on, investors need to take notice that both China and emerging markets are both flirting with bear markets, with China crossing into one this week. The threat of a trade war and a strengthening Dollar are both weighing on international stocks, and are threatening to crimp economic output. Morgan Stanley is warning of a big drop in the MSCI emerging markets index. According to the Bank’s strategy team, “This is a dangerous market … We now think we’re heading to an outright bear market”.

FINSUM: If there is a global recession coming, it seems like one that will start overseas and filter back to the US. The big question is whether that recession will lead to major asset meltdowns, such as in corporate debt.

(New York)

A flattening yield curve is almost universally seen as bad news, and with good reason. A flattening curve is one of the most reliable recession indicators, with a yield curve inversion successfully portending the last six recessions. Now that we are close to an inversion, experts are weighing on how to play it. One thing to remember is that the peak in stocks tends to not come until several months after the inversion itself, so it is not an immediate divestment indicator. One analyst from Canaccord Genuity says to get overweight “financials, info tech and industrials with an intermediate-term time horizon”. Utilities and REITs are another area to look.

FINSUM: A flattening yield curve is going to be frightening to everyone, especially in the current environment, so our own view is that the peak in stocks may be much nearer to the inversion this time (or it might have already happened).