From Risk OFF to Risk ON: To Stimulus or Not?

Financial markets have become totally distorted and reliant on what the central bankers and policymakers does.

Following a heavy selloff just a few days ago, global markets have fiercely been rebounding on the prospects of “stimulus”. Thus the last few days have switched into a RISK ON environment.

From Bloomberg,

Asian stocks advanced for a third day, extending a global rally, and oil climbed on speculation policy makers will take steps to revive the slowing economy.

The MSCI Asia Pacific Index (MXAP) increased 1 percent by 9:45 a.m. in Tokyo, heading for its longest winning streak in two months. The Nikkei 225 Stock Average added 1.1 percent, while Standard & Poor’s 500 Index futures rose 0.3 percent. Oil gained 0.5 percent in New York, strengthening for a fourth day. The Australian dollar slipped 0.3 percent before a report showing the nation’s jobless rate may have risen.

European Central Bank President Mario Draghi said officials stand ready to act as the euro region’s growth outlook worsens. Federal Reserve Vice Chairman Janet Yellen said the U.S. economy “remains vulnerable to setbacks” and may warrant additional monetary stimulus. China delayed plans to tighten bank capital rules to ensure lending support to its economy, while Indian Prime Minister Manmohan Singh pledged to revive growth in Asia’s third-largest economy through infrastructure spending.

“The Chinese will take action to stimulate the economy and the Americans will similarly respond,” said Prasad Patkar, who helps manage about $1 billion at Platypus Asset Management Ltd. in Sydney. “For a sustained rally, we need a period of stability where we’re not in a fire-fighting crisis mode.”

The MSCI All-Country World Index (MXWD) climbed 2.1 percent yesterday, the biggest gain since Dec. 20, and the S&P 500 jumped 2.3 percent. Two regional Fed bank presidents who vote on policy this year, San Francisco’s John Williams and Atlanta’s Dennis Lockhart, said yesterday the central bank should be prepared to take action if the economy deteriorates further.

In reality, financial markets have been desperately slobbering for stimulus, or differently said, financial markets have been PRESSURING policymakers to act.

And with expectations mounting, applied stimulus may or may not come in line with public’s clamor which may spur further volatilities. There is also a risk that stimulus may not arrive.

So far I would say that the Risk ON environment represents residues from the last stimulus.

And as one would notice, policymakers have now become the ultimate insider traders by having to chose winners and losers and by manipulating the financial markets directly and indirectly (the Risk ON environment is also in response to central banking’s signaling channel or communication to project policy intentions, and which seems like the Pavlov classical conditioning experiment through the famous Pavlov Dogs)

Let me drive a simple point. Hope must NOT be confused for action. There is no clarity yet on what path policymakers will undertake.

So do expect “more period of intense volatility on both directions but with a downside bias”

Be very careful out there.