Risky Business: Are The Markets Really In "Risk Off" Mode?

On Friday Feb. 21, after more U.S. companies forecast weaker earnings because of the global impact of the spreading coronavirus, markets fell and pundits declared that investors had moved into a "risk off" mode, citing the rise in gold prices and lower yields for U.S. Treasuries.

We would argue that perhaps investors were being selective about which assets in various asset classes they were willing to put up the red "risk off" flag. We like to look at more than one day of market results to get a sense of where things are headed. And it could very well be that Feb. 21 was the beginning of a global downturn in various asset classes. That said, we do think it is worth pointing out what the trend has looked like for a longer period of time - like maybe a week. For the record, that's also during a time when the drip of coronavirus news was getting louder and louder each day. And, we would humbly argue, that you need to look beyond one or two instruments.

One of the metrics that we've developed at Excalibur Pro is an index that looks at eight risk-sensitive instruments across different asset classes. We look at the current price versus the 60-day moving average and when the current value is 5% above the moving average, we are in a sustained risk-on mode. Likewise, when the current value is below 5%, we are in a risk-off mode (we devised this methodology in part from a white paper at the IMF). We then take those percentages of the eight instruments, equally-weight them, and we have our index.

What the index is showing is a weakening toward risk-off - but it is clearly sitting in the neutral zone. And the reason is that there are different signals coming from different markets.

Let's start with some risky assets. In the FX market, one of the riskier bets is the cross currency AUDJPY (Australia has higher rates and Japan is a safe haven). That pair was up 1.735% last week - you would have expected it to be under pressure. The NYSE Fang+ Index (the stock index that captures trading in riskier tech companies like Facebook, Apple, Amazon, Netflix, Google, NVIDIA, Alibaba, Baidu, Twitter and Tesla) was up 1.068% - again, you would have expected more selling pressure. The SSE Composite - the index that represents Chinese companies and where the coronavirus is having the worst impact, was up 4.25% last week. The MSCI Emerging Markets Index was off 2.05%. That's showing an aversion to risk. And the S&P 500 was off 1.25%. Same story - but not huge losses.

The traditional safe havens where people go when they don't like risk were up significantly: gold was up 3.91% for the week and silver was up 4.49%. But in the FX market, that ultimate safe haven JPYUSD was actually off 1.72%.

All of which is to say - there is not a consensus right now across asset classes as to the extent of risk concern in the markets. The obvious risk-off assets have spoken. But it's not across the board and you need to look at all asset classes and metrics to get a stronger feel for the heartbeat of the markets.