Taking a cue from a bearish close to last week, global equity markets opened to a rout this week as investors were spooked by the possibility of aggressive monetary tightening in the United States (U.S.). In the U.S., the S&P 500 and Dow Jones Industrial Average shed 4% and 5% respectively on Monday, with the Dow losing 3% of its value in a manic 10-minute period, and all but two S&P 500 stocks closing in the red at the start of the week. Asian markets felt the pain too, with the benchmark index in Japan slumping 6% at week open.
What triggered the rout?
The market rout was accompanied by high volatility. The most widely used measure of U.S. market volatility – the CBOE Volatility Index – spiked to its highest level since 2015, and the main gauge of market anxiety in Europe saw the sharpest change since the September 2001 terrorist attacks. A positive growth outlook and policy stability had created unprecedented calm in the U.S. market (as measured through volatility gauges) but this turned sharply in recent trading sessions. Heightened volatility is negative for Emerging market assets and other riskier assets such as commodities. Unsurprisingly, whilst gold prices rose at the start of the week, commodity prices dipped significantly – Brent crude down nearly 3% from previous week close on Tuesday.
What happens next?
The U.S. market in particular is likely in the middle of a market correction. Cheap money fueled by loose monetary policy in the U.S. spurred a multi-year rally in equity prices, leaving the U.S. market arguably overvalued. In this sense, the market correction was anticipated, though the timing and sharpness are surprising. The S&P Relative Strength Indicator hit its highest point on record at the end of January, a fair sign that the market was due a significant correction. Likewise, the Shiller Price-Earnings ratio, a comparison of prices and cyclically adjusted earnings, rose two standard deviations above its mean for only the third time in the last hundred years – the previous two occasions precipitated the Dot Com bubble and Great depression.
How will Nigeria fare? Rising interest rates in the U.S. would likely trigger some capital to that region and Nigeria is unlikely to be fully spared, depending on the broader outlook for the country relative to other Emerging Markets. Movement in the MSCI Emerging and Frontier market indices indicate that Emerging Markets have already begun to suffer the effects of the global equity panic amid notable capital outflows. Similarly, Nigeria’s Eurobond yields have inched up recently as investors reprice Emerging Market dollar-denominated assets on the back of more hawkish U.S. rate expectations.