WASHINGTON. Preoccupied with things non-financial for most of last week, this columnist chose the wrong week to be absent. Stocks began the week bullishly. But then, the overall market for stocks stalled on low volume. On Friday, it proceeded to tank. This was a typical reaction by the market to Turkey’s currency issues (among others), plus the resulting negative headlines.
Friday’s “we’re all going to die!” front page reaction was typical of our peculiarly obtuse 21st century market of stocks. Stocks and widely followed averages are generally driven today by negative headlines and the naturally resulting fears (and rumors). As for actual facts, figures and earnings predictions, who cares? This makes for foolish overreactions, both pro and con, that can lead individual investors to take unnecessary losses.
ETF buying and selling reactions to Turkey’s currency issues
It doesn’t help, of course, that much of today’s trading volume is generated by ETFs that represent various indexes of stocks rather than individual publicly traded companies. This can skew the performance of many individual stocks if the ETF in which these stocks are contained suddenly goes haywire for whatever reason.
To simplify: the performance, up or down, of large individual sector ETFs can absurdly screw the performance of individual stocks in that ETF. That means you have to keep an eye on ETFs that contain your favorite stock(s) whether you own that ETF in your portfolio or not. That wasn’t the way I was raised to invest. But often, that’s the way it is now.
At any rate, what follows is our latest Sunday market review. We pick up where Friday’s very negative closing bell left off.
Turkish lira fun
Turkey’s currency, the Turkish lira, took a nasty cliff dive this week, partially because of the asininity and arrogance of its central government.
One internal investment letter (no public link that we can find) describes the market’s negative reaction to the ongoing Turkish currency crisis as follows.
“A plunging Turkish lira sent shock waves through global equity markets on Friday, causing concerns over the financial health of lenders with heavy exposure to the economically-struggling country. The S&P 500 lost 0.7%, dropping into the red for the week (-0.3%), and the Nasdaq (-0.7%) and the Dow (-0.8%) suffered similar declines.
“The lira was down nearly 16% against the U.S. dollar at Wall Street’s closing bell, weighed down by continued tensions between the U.S. and Turkey, which made no progress during talks this week regarding the detainment of American pastor Andrew Brunson, who is accused of supporting a group blamed for an attempted coup in 2016.”
The other reason behind the lira’s negative performance transpired courtesy of President Trump’s increasing irritation at the Turkish government. (And, of course, the resulting negative headlines.) Specifically, we refer to Turkey’s continuing, intransigent response to Trump’s demand that they release at least one of their long-held and (presumably) innocent American hostages.
Do dictatorships = unreliable currencies?
Any country that lets the value of its currency sink to consolidate power is a big problem domestically. But unstable currency issues can increase the risk of passive and active foreign investors as well. If the risks get too high, the selling of a country’s stocks and bonds begins. Ditto the hoarding of strong currencies (like the Euro and the U.S. dollar) and the hoarding of precious metals as well.
If, say, Bangladesh was experiencing this kind of problem, the investment world might simply shrug and move on. Its economy is not big enough to cause many international banking or currency issues.
But, at least until now, Turkey is (was?) part of NATO, part of the Western European / U.S. alliance. Since the time of Atatürk, Turkey was officially secular in nature. For the second half of the last century and the beginning of this one, it has been a reliable business and military partner as well.
Now, these pillars of stability are getting wobbly. Given its importance as a major economic partner in the Western alliance, Turkey’s currency issues are causing turmoil in world markets. But in a way that currency problems in Bangladesh might not.
If either the Turkish lira, the Turkish banking system, or both start spinning completely out of control à la Venezuela, the chaos could cause tremendous problems for a large percentage of Turkey’s western investors and trading partners. And that’s precisely what spooked the U.S. stock market late last week. Those still trading on Friday either bolted for the exits or started shorting various representative issues, currencies or ETFs.
Turkey, Erdoğan, Trump, the revival of the Pax Americana. And those negative headlines
What’s ahead? Who knows? Erdoğan can’t (or won’t) cave to American demands. At least not openly. After all, caving is something dictators like Erdoğan don’t do. Dictators can never show even a hint of weakness. Or common sense. Otherwise, the Fear Factor that keeps them in power will vanish, leaving their very lives in jeopardy.
On the other hand, President Trump, while no dictator, will likely stand his ground as well. The media completely ignores this and other actions by the administration that aim to revive the once effective Pax Americana. In the past, (pre-Obama) one effect of that unwritten policy was a virtual guarantee that an American citizen would remain safe from harm. That would remain true no matter where in the world he or she would choose to travel. A bit like the Pax Romana in ancient times. Trump’s attempt to revive the Pax Americana, however, only earns him negative headlines.
Resolving this issue is pretty much up to Turkey’s arrogant dictator at this point. That is exactly the current problem.
Currency issues, financial risks, and headline risks
With currencies, banks, and corporate and individual investors at increasing risk, we can’t underestimate the potentially substantial economic risk that the Turkish government and Turkish currency could pose to Western economies.
Hence, the nervous trading last week in a calendar month that’s notoriously prickly. This week’s prickliness is maingly due to the large number of traders and investors on holiday in this particularly volatile August.
Markets may focus on some fresh terror next week. But we all need to keep an eye on the Turkish lira and the Turkish hostage situation. That’s true even if we also need to keep our other eye focused on the progress, or lack thereof, by the Trump administration with regard to resolving at least a few tariff and trade issues fast enough to make a difference in the very iffy November midterm elections.
As we’ve noted many times, real and negative headlines alike are currently driving markets. Such headlines are mostly based on trade, currency and leadership issues. Fundamental and technical investing remain as useful research techniques. Investors can still rely on either one or the other or both methodologies. But they should still prepare themselves for politically-inspired rallies or crashes. Sometimes in less than a day, these and other surprises can overturn the best of investing plans.
The trading and investment week ahead
We’re prepared to pull the trigger on buy orders for either the single S&P 500 short ETF (symbol: SH), or the more juiced-up (leveraged) double S&P 500 short ETF (SDS). Deploying these short ETFs to hedge your stock portfolio is one way to hang on if things get crazy.
SH and SDS are very volatile, however, particularly the latter. So investors should only buy them if they can sit in front of their computer screens all day. If not, it’s best to avoid these issues. We’re not giving advice in this column. We’re just sayin’.
Have a pleasant Sunday afternoon, and we’ll be back when trading resumes.
Headline image: Via Pixabay. Public domain, CC 0.0 license.