Nomura’s Hodges warns of Fed-triggered equities dive

Added 2nd September 2016

Nomura Global Dynamic Bond manager Richard ‘Dickie’ Hodges anticipates the Federal Reserve rate hike will trigger a fall in global equity markets by as much as 5-8%.

Nomura’s Hodges warns of Fed-triggered equities dive

Although, Fed Chair, Janet Yellen, and Vice Chair, Stanley Fischer, have heavily implied that the path toward a US rate hike has not wavered, Hodges said markets are still not properly pricing the probability of interest rates going higher this year. 

“The markets are saying that the probability of interest rates rising this year and even into next year is slightly less than 50%,” he said. “Therefore, the biggest shock to both equity and fixed income markets is that they do actually raise rates.”

“There is a strong possibility the Fed will raise interest rates in September but the probability of that is still below 45%. But if the Fed does not rise rates in September, then I think there is a significant probability that in the December meeting you could see as much as a 50 basis points rise.”

At the moment, Hodges is playing the waiting game until the Fed’s September meeting as other investors pounce on seemingly cheaper risky assets, emboldened by the general atmosphere of complacency. 

“Now, we are getting to a point where a sustained low level of volatility is creating a significant level of complacency,” he said. “The Volatility Index (VIX) has been stable for the last two to three months at these low levels so everyone is getting complacent and buying new issues at very expensive levels and significantly more expensive assets than they were three months ago.”

Unlike many of his peers, Hodges reckons the majority of assets at the moment are still very expensive from a risk/return perspective, which is why he is sitting on his hands for now.

“I have seen this happen a million times,” Hodges said. “You just have to wait. I am doing nothing apart from occasionally selling very expensive bonds when they rally, building up cash and then waiting to put on hedges so that I can short all risk assets. I am doing this because I firmly believe as soon as the Federal Reserve puts up interest rates again, you will see another 5-8% fall in global equity markets and it will happen within a couple of days.”   

“Once that funding goes up from 0.5% where it is today, then the cost of financing leverage goes up and equity markets are back down to a level where they are only distributing 2.5%-3%. It’s like a seesaw. If the borrowing cost goes up, everything must fall again.” 

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