By Ira Iosebashvili and Akane Otani
The world seems more tumultuous than it has in years. Congress
is weighing impeachment, the U.K. is on the verge of a momentous
vote regarding its role in Europe, and the U.S. and China are still
mired in a trade war.
Yet the S&P 500 is within about 1% of its all-time high.
What's going on with Wall Street?
For many money managers, the answer has a lot to do with the
Federal Reserve. The central bank has already lowered interest
rates twice this year and is widely expected to do so at least once
more in 2019 to help support a slowing economy.
Bets that the Fed will step in if markets become too volatile or
economic data continues to decline are helping many investors shrug
off what they say are increasingly dire signals. Their rationale:
If interest rates are lower, borrowing costs for businesses and
consumers will drop, potentially giving the economic expansion more
room to run even if trade policy and foreign affairs seem
murky.
Many investors are also choosing not to try to trade
geopolitical events that don't have immediately obvious policy
implications because they say it's hard to quantify how events from
the Hong Kong protests to the rise of nationalism in Europe will
affect asset prices.
"We may have gotten to a point where investors ignore
fundamentals because central banks will always step in with more
stimulus and easy money when credit spreads widen or stocks fall,"
said Torsten Slok, chief economist at Deutsche Bank Securities.
That has made for relatively muted moves in markets.
The S&P 500 closed down just 0.5% on Sept. 27 after a report
that the White House was weighing limiting investment in China. It
was down 0.8% on Sept. 24 when calls for President Trump's
impeachment gained momentum. Oil prices shot higher after an attack
on a Saudi Arabian oil facility last month but returned to their
previous levels in two weeks.
Markets also barely budged last week when U.S. retail sales data
for September came in much weaker than expected -- though investor
expectations of a rate cut rose by nearly 15 percentage points on
the Chicago Mercantile Exchange that day.
Overall, the S&P 500 has moved an average of 0.8% each day
going back to its July high, according to Dow Jones Market Data.
The index is up 19% for 2019 but less than 5% from January
2018.
Sandy Villere, portfolio manager at the $2 billion Villere
Balanced Fund, says expectations that more rate cuts are on the way
have made it easier for him to stay invested in stocks. Mr. Villere
said he believes the Fed's support will limit the stock market's
declines to around 10%, and he's keeping more cash than usual to
bargain-hunt during market dips.
"When you see those chinks in the armor, you feel the Fed will
be there even longer," he said.
Part of the market's resilience may stem from the fact that
investors have already priced in many geopolitical risks, said
Chris Verrone, a partner and head of technical & macro research
at Strategas. For instance, last fall's selloff sent the S&P
500 down nearly 20% in less than three months. That has made the
market's double-digit percentage gains in 2019 look more like a
game of catch-up, rather than an unfounded rally.
"The market, I think, is saying all this bad news is already
priced in," Mr. Verrone said.
Market volatility may also be limited by the fact that many
long-term asset managers say they aren't trying to make swift bets
on geopolitical events. Many have evolved so quickly that it's best
to stick to investing based on factors like long-term growth
expectations and valuations, they say.
Back when the Brexit referendum and U.S. presidential election
loomed in 2016, GAM Investments traded options in an attempt to
benefit from rising market volatility. But it didn't have much
luck: "To be brutally honest, it didn't work," said Larry Hatheway,
head of investment solutions at the Swiss asset manager. Now, the
firm only owns stocks that it thinks will perform well regardless
of how and when the U.K. leaves the European Union, Mr. Hatheway
said.
Similarly, Ed Al-Hussainy, senior interest-rate and currency
analyst at Columbia Threadneedle, said he has recently debated
whether to buy the British pound, which has surged as a possible
Brexit deal came into view. But he has left that trade on hold for
now.
"The risk has always been that we walk into the wall and there's
a no-deal Brexit," he said. "Why bother with these risks?"
Still, some firms have kept trying to find opportunities to
profit from gyrations in geopolitical risk. In June, M--CAM
International rolled out its Innovation Alpha Trade War
exchange-traded fund, which includes large companies like Micron
Technology Inc. and Nintendo Co. that it believes would have
better-than-average protection from intellectual property disputes
if the trade war worsened.
Hedge funds and other speculative investors have also tried
playing geopolitics. This month, they've taken out bets on soybean
futures rising as reports have suggested the U.S. and China were
making progress on trade talks, according to data from the
Commodity Futures Trading Commission.
And while wagering on a presidential election months before
primary season can be treacherous, more money managers are
adjusting their portfolios as the Democratic field takes shape and
Elizabeth Warren emerges as a presidential front-runner.
If Sen. Warren wins the presidency, "we believe legislative
focus would likely fall on money center banks and nonbank consumer
lenders," says Neal J. Wilson, co-chief executive of $7.6 billion
hedge fund EJF Capital LLC in Arlington, Va.
That's partly why Mr. Wilson's firm continues to hold shares and
debt of smaller community banks. He said he believes smaller banks
will fare better than larger institutions if Ms. Warren or another
Democratic candidate wins the election.
Still, those with longer time horizons caution that trying to
make short-term bets off hypothetical scenarios is risky.
"Investors are trading on a hope for some sort of lasting trade
peace, which after 18 months, appears to be elusive," said Alexis
Crow, who leads PricewaterhouseCoopers's geopolitical investing
practice.
--Joe Wallace and Gregory Zuckerman contributed to this
article.
Write to Ira Iosebashvili at ira.iosebashvili@wsj.com and Akane
Otani at akane.otani@wsj.com
(END) Dow Jones Newswires
October 18, 2019 13:22 ET (17:22 GMT)
Copyright (c) 2019 Dow Jones & Company, Inc.