Institutional Insights: TS Lombard On SP500 & Volatility Events

Analysts at TS Lombard compare the recent volatility spike and the impact on markets

'Where do we go from here, and what does it all mean for asset allocators? Our view is that unless we get a US recession, the recent market rout will eventually blow off. But how long will volatility last? Also, are we sure a recession is not on the horizon?

We think the Fed has the tools to stave off a recession. We can hear the objection – central banks always cut too late, and they are behind the curve already. But unlike in a ‘typical’ economic cycle, there are no obvious excesses to correct in the US economy – and especially no debt excesses. In fact, there still is an excess of liquidity that could rotate into risk assets if real rates become unappealing. In other words, the Fed has the right tools this time – it just needs to use them, and use them aggressively. A recession could develop by year end if Powell hesitates

Even if there is no recession, volatility in markets can last for a while. Our analysis of past volatility bouts shows that equities take 4-5 weeks, on average, before a sustained recovery begins. Markets tend to rebound on oversold conditions such as the current ones, but investors often sell into that strength, which can lead to a relapse. This is what happened, for instance, in 2018, an episode that bears strong similarities to the current one

Active investors can probably take advantage of these market patterns over the next few weeks. Asset allocators, however, should probably wait for more clarity before switching to an exceedingly defensive stance. As Steve Blitz pointed out many times, recession is not an option for the Fed, and we should expect a response if markets failed to stabilize. Things would likely have to get worse before they get better, but getting the timing right may be impossible for all but the nimblest investors."