Divided Markets Show Volatility's Return Is One-Sided Affair

(Bloomberg) -- Wall Street is struggling to reconcile currency and bond markets increasingly at odds with the roller coaster in stocks.

As China’s proposed retaliatory measures against Washington’s protectionist threats rattled equities Wednesday, bond and currency markets shrugged. The JPMorgan FX Volatility Index held comfortably below its 12-month average, even as the Cboe Volatility Index jumped to nearly double its level for the past year. Treasuries were steady. Unlike in the past, a plunge in the S&P 500 did little to rouse demand for long-dated bonds.

S&P 500 Index losses pared over the course of the day, showing that for now fundamentals like economic data and policy clarity -- the key drivers for bonds and currencies -- are winning out against headline hysteria.

“Equities are more of a short-term trading vehicle for these situations where you’re trading headlines,” Craig Hodges, chief investment officer at Dallas, Texas-based Hodges Capital Management Inc., said in an interview at Bloomberg’s New York headquarters. “The bonds actually tell the story.”

Divided Markets Show Volatility's Return Is One-Sided Affair

That story says global growth is strong enough to surmount trade threats. Tariffs in their final form won’t be so deep they’ll derail the economic rebound set into motion by central banks over a decade, and one they’ll keep guiding, helping to underpin demand for risk.

It’s a narrative set out by Karen Ward, JPMorgan Asset Management’s chief market strategist for Europe and the U.K.

“Central banks are going to be reactive, they’re going to keep trying to push that recovery along,” Ward told Bloomberg TV on Wednesday. “For us it’s about looking through some of this trade noise -- we don’t think it’s going to escalate. It’s still a very pro-risk tilt.”

What’s more, credit markets remained sanguine, with spreads on U.S. high yield obligations -- which typically track the VIX -- only a whisker above their one-year average, a bullish signal for the business cycle.

Divided Markets Show Volatility's Return Is One-Sided Affair

“If credit and emerging-market debt sells off, it would show that people were worried about the economy and that’s not the case,” Andreas Koester, head of global asset allocation at UBS Group AG’s investment arm, said in an interview. “The classic rule book is that credit is the best predictor of a slowdown.”

Steven Englander, head of research and strategy at Rafiki Capital and former head of G-10 currency strategy at Citigroup, says the bigger question may be why stock investors react so strongly to what often turns out to be political grandstanding.

“So many of the political events we have seen in recent years turn out to be shadow boxing,” he said.

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