The pace of the sell-off in global risk assets in the first half of October was breathtaking. It began with a sharp decline in the major US benchmarks, swiftly followed by a collapse in markets across Asia -- with North Asia hardest hit -- before spreading to Europe.
It is not entirely clear what the cause of the sell-off was. For some, the collapse was a complete surprise; for others, it was a long time coming. For some the selling was seen as indiscriminate; for others, rational.
Ultimately, I think the answer lies in the bumpy and uncertain normalisation of monetary policy. The fact is, no one quite knows what will happen as the global economy exits the world of ultra-low interest rates and seemingly infinite liquidity. And because there is neither a road map nor timeframe, accidents can happen and we can lose our way.
The imbalance caused by appreciating equity prices and surging US 10-year bond yields was bound to correct, particularly since the move in the latter was not justified by any commensurate shift in fundamentals. The lagged correction in equity prices helped correct this imbalance and was always likely, but nonetheless painful to experience.
The problem is, accurately sequencing monetary normalisation is profoundly complicated by regional economic divergences.
It's hard enough to forecast the effects on markets of higher interest rates in the US; but when you also incorporate decoupled monetary trends in Europe and Asia, forecasting becomes substantially harder, and the prospect of uncertainty and higher volatility substantially higher.
For example, the prospect of a policy collision between the EU and Italy is being taken seriously by the market, which has profound implications for the euro. Given the existing trade flows, a weak euro tends to be negative for China and vice versa.
Pressure on the Chinese yuan was thus building at almost the same time that the US Treasury was deciding whether Beijing is a currency manipulator (it is not, the Treasury said), thereby piling even more pressure on US-Sino trade relations.
When you throw into the mix such geopolitical risks, volatility can easily rise quite seemingly spontaneously. This is in turn could force leveraged players to unwind. Indeed, given our view that US-Sino relations are likely to remain strained in 2019, instances of geopolitical-inspired volatility will likely endure.
At the end of the day, the key question is: Is it a correction or an inflection? And do subsequent price declines represent buying or selling opportunities?
US OUTLOOK THE KEY
To answer this most important question we have to make clear our US outlook. For the record, our house view is for 2.9% US growth in 2018, moderating to 2.7% in 2019; we also anticipate headline inflation averaging 2.5% this year, before declining to 2.1% in 2019.
And while our "moderate growth, low inflation" view closely matches the latest IMF outlook, we freely acknowledge a full range of competing views in the market. Put simply, those anticipating an inflation shock will see the market sell-off as a paradigm shift from a disinflationary to an inflationary environment.
This is the "inflection" camp that expects high yields and weaker equity prices going forward. They will avoid the long-only market at all costs. But we are not in this camp, anticipating instead low inflation and moderate growth.
As such, we prefer to see October's price action as just a correction, and thus a buying opportunity.
John Woods is Chief Investment Officer for Asia Pacific with Credit Suisse.