Beijing takes on the bear market

Chinese investors have long believed their government would not allow a bear market, only to discover Beijing’s powers are more limited than they thought.

Chinese indices fell by between 7 and 9 per cent on Black Friday, June 26th. Alarmed policymakers took note.

They cut interest rates and bank reserve ratios. Rules on margin trading were relaxed, allowing investors additional leverage. A suspension of initial public offerings (IPOs) was mooted, the intention being to boost demand for existing shares. Share transaction fees were lowered.

The carnage continued. Chinese stocks have now lost almost $3 trillion in a matter of weeks.

The State remains a hugely important driver of returns in China, but it is not omniscient.

China's bubble has been fuelled by alarming levels of leverage – when positions go against investors, losses quickly multiply and things take on a life of their own. The government does not want a crash, but it may be too late to avert one. Volatility returns to markets Volatility rocketed last week following the escalation of the Greek debt crisis, and not just in Europe.

The S&P 500 suffered its biggest one-day decline in 2015, while the Vix – Wall Street’s fear index – soared 35 per cent, the 11th-largest one-day jump in history.

That sounds alarming, but the S&P 500 remains stuck in an extremely narrow trading range.

Additionally, volatility has been subdued throughout 2015; even after last week’s spike, the Vix remains below its long-term average.

Now, last week’s action may presage a period of higher volatility.

Markets have tended to underperform in the short- term following past volatility spikes, often taking months to calm down. Then again, a similar volatility spike occurred in January; it proved a short-lived affair and was quickly forgotten.

Volatility has been rising in Europe since March, last week hitting an eight-month high. Whether the US is about to follow suit and awake from its lengthy slumber, will become clearer in the coming weeks. Betting on Grexit What are the odds of Grexit? That depends on whom you ask. About 85 per cent, says renowned bond investor Mohamed El-Erian. BNP Paribas agrees the odds have increased, but only to about 20 per cent.

Royal Bank of Scotland last week doubled its odds on Grexit to 40 per cent, while Morgan Stanley says the odds are 60 per cent.

Clearly, there’s no unanimity, and that’s fine – differing opinions make a market, after all.

However, strategists really should steer clear of talk of odds and percentages; a precise, mathematical assessment is nigh on impossible in a situation like the current one.

What should they say? Confess to the uncertainty and the fact that any opinion is, well, just an opinion. “Our core view is that Grexit remains unlikely,” Credit Suisse said last week; the situation “is very fluid”.

That's fine. Pretending you can calculate the odds – between 33 and 50 per cent, Credit Suisse added – does no one any favours. US uptrend intact – for now Last week's Greece-induced nosedive saw the S&P 500 hurtle down to its 200-day moving average.

The 200-DMA, a popular gauge of the longer-term trend, has acted as technical support on numerous occasions since 2011, with investors viewing it as an obvious chance to buy into the bull market.

Would it be a concern if this time, prices continued to fall?

Not necessarily. Many trend followers use breaches of the 200-DMA as a signal to exit the market but there is nothing magical about the measure and its predictive capabilities have tailed off in recent decades.

Still, stocks do tend to do better when the S&P 500 is above rather than below its 200-day moving average; over the last two decades, monthly returns average at about 1.2 per cent when above the 200-DMA, compared to a slight loss when below.

Additionally, volatility jumps in down-trending markets.

The likelihood of significant monthly declines increases while the worst one-day declines almost invariably occur when prices are below their 200-day moving average.

No timing measure is perfect, but bulls will be hoping the long-term uptrend remains intact.

Size matters "I wasn't the chief finance officer at Enron, " Andrew Fastow told a London conference hosted by Financial Times blog Alphaville last week. "I was the chief loophole officer".

The former Enron CFO wasn’t always so modest. “I ought to be CFO of the year”, he once said. “Do you realise what a great job I’ve done at this company [Enron]?”

That quote comes from a recent study which argues that narcissism is linked to dodgy accounting. How can you detect CFO narcissism? Look at their signatures, say the authors.

Various psychology studies have found that bigger signatures are linked to narcissism, prompting the authors to assess 512 CFO signatures. The results confirm that bigger signatures predicts “reporting misbehaviour”.

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