Turnaround or a dead cat bounce: volatility persists in Asian trade

Volatile markets bring with it big rallies just as well as big drops. Wall Street’s recovery last night was extraordinary, and has some suggesting that in a market conditioned to buying-the-dip, the rally from nearly 4% down and a technical correction is a sign of a turnaround. Right now, it’s too difficult to tell for sure, and it could be a dynamic that finds itself explained away ex-post after this week’s highly anticipated US Federal Reserve meeting.

After all, it is the Fed that’s generating this volatility as investors’ price in the prospect of a central bank willing to thrown the stock market under the proverbial boss to maintain its credibility on inflation. Rates markets are implying 4 – maybe even 5 – rate hikes in 2022, and 3 in 2023, while the major source of uncertainty is what the Fed does with its balance sheet. That is: what will the size, pace and timing of the reduction in the size of it.

If the Fed comes out relatively dovish – which it could, given how aggressive markets have priced the Fed – stocks could rally and the bounce seen last night would be seen as the beginning of the next leg higher. Confirmation of a hawkish policy outlook could renew downside is risk assets, and relegate last night’s recovery to little more than a dead-cat bounce. Notwithstanding all of this, technicals have their role to play in the moves, with a retail trader capitulation, a short-squeeze (the put/call ratio was at its highest since April 2020) and some algorithmic buyers probably driving price action.

Looking at current price action, and sentiment still looks weak, with Asian stocks down today, and other riskier assets, like cryptocurrencies, also remaining under selling pressure. The ASX200 has been a particular underperformer, falling through 7000 and trading more than 3% lower at certain stages, with its recent sell-off accelerated by domestic policy risks, after Australian CPI data exceeded estimates at 3.5%. Rates markets are pricing in a higher chance of a May rate hike now, with another 3 expected to follow in 2022.

Right now, European and US futures look to be under further selling pressure, meaning tonight’s trade could see some of last night’s recovery evaporate. In all likelihood, it won’t be until the Fed hands down its policy decision that we’ll know whether this volatility ought to persist.