ETF Securities, a leading London-based provider of exchange-traded funds, has reported that recent indicators of consumer sentiment have been standing in stark contrast to those of investor sentiment. The firm argues that increasing strength in the consumer space has the potential to bring stability to current volatility in asset markets, through the reinforcement of strong fundamentals.
ETF Securities argues that strong consumer fundamentals may begin to exert a calming effect on the current volatility of key asset markets.
Despite uncertain US Federal Reserve policy, as well as the Chinese economic slowdown amplifying asset return volatility, consumer sentiment has begun to improve, fuelled by rising employment levels and falling energy prices, finds ETF Securities.
Martin Arnold, Director, FX & Macro Strategist at ETF Securities, writes: “As a result, there appears to be a fundamental disconnect between returns for cyclical asset classes and the underlying economic fundamentals, particularly in the US. While market participants appear to be focussing on softening metrics like manufacturing and industrial production, consumer sentiment is breaking higher and likely to underpin activity in both the services and manufacturing sectors.
“High consumer sentiment suggests that the slowdown in manufacturing and services from survey evidence has the potential to reverse in coming months. We expect that such a development could be the catalyst for a reduction in market volatility as investors become more confident in the solid underlying economic fundamentals. ”
Although volatility has thus far remained at multi-year highs across asset classes in 2016, particularly in oil and currency markets, equity instability has begun to show signs of receding, perhaps indicating the beginning of a wider easing of volatility. Indeed, as Arnold notes, ” During periods of elevated (or depressed volatility), movements tend to be consistent across asset classes.”
“However, one indicator that could be the herald for more market stability is the volatility of volatility. The volatility of volatility has been moderating for all asset classes, indicating that volatility is lessening. This means that the investor uncertainty might be waning and could lead to a reversal of the ‘risk-off’ trend that has been in vogue in 2016.”
Turning to what this means for currencies, an examination of historical correlations to volatility has led Arnold to tip the British pound as a potential out-performer in coming months. “The British Pound has been the worst performing G10 currency, with the exception of the New Zealand Dollar. The poor performance is not surprising as GBP tends to be inversely related to volatility. However, in coming months we expect this weakness to moderate as market volatility gradually fades,” writes Arnold.
“The best performing currency by far in 2016, has been the Norwegian Krone, following the sharp rebound in oil prices. If oil prices stabilise in line with volatility, this could be the beginning of a sustained rise for NOK (and its oil counterpart CAD, which has lagged the oil bounce thus far). Indeed, while it has outperformed in 2015, it is still well below its levels of a year ago, with plenty of upside potential.”
As for the US dollar, Arnold suggests that moderate upside potential remains as strong economic fundamentals trickle through to the greenback’s market; however, these limits may be reached following the pricing in of interest rate expectations following the March Federal Open Market Committee meeting.
ETF Securities offers a range of ETPs in this space, including:
ETFS Bullish GBP vs G10 Currency Basket Securities (LGBB)
ETFS Long GBP Short EUR (EUGB)
ETFS Long GBP Short USD (GBPP)
ETFS Long NOK Short EUR (LNOE)
ETFS Long NOK Short USD (LNOK)
ETFS Long CAD Short EUR (XBJL)