One of the difficulties of commenting on financial markets in real-time is that the magnitude of the importance of events is only truly apparent in hindsight. In February 2007, HSBC warned that bad-debts from their sub-prime mortgage book would be higher than expected. That month the S&P 500 Index fell by around 2% but then rallied back to fresh highs over the next four months. Of course, from our current vantage point it is now easy to draw a causal path from that point through to the collapse of Lehman Brothers in September 2008.
We may look back at August 2017 as another turning point in the risk appetite of investors. Once again, the S&P retreated following a good run, down around 2% during the month, only to rally over the last two days to finish the month flat. Of course, the late rally probably means that things have returned to normal – the macroeconomic backdrop remains strong enough to carry risk assets in the absence of a large exogenous shock (Trump making a mess of the presidency doesn’t appear to be enough of a shock while the data stays good) and Central Bankers seem to be competently managing the end of Quantitative Easing (“QE”). The long-awaited Jackson Hole Symposium failed to deliver anything seismic and, in isolation, there is no reason for us to believe that Central Banks could not start to collectively shrink their balance sheets in a controlled manner. But as history shows things do not take place in isolation, and it is the improbabilities of the current outlook that interest us, since they appear to be growing in our view.