The stock market crashed. What happened?

August 5, 2024 has already been called "Black Monday" of the XXI century. Financial markets around the world have experienced a sharp crash, with Japan experiencing its biggest drop since 1987 and the United States doing no better. This whole chain of events that led to the catastrophe on the stock exchanges began to unfold last week, when the US authorities published weak statistics on the labor market. This caused global investor anxiety about a possible recession, which triggered a massive sell-off in stocks.

How justified are these fears, who will suffer from a possible crisis and when will the markets be able to get out of this tailspin and achieve stability?

Why did such a collapse occur?

Bloomberg points to several reasons. Some of them date back to 2020, while others became noticeable only in early August 2024. Together, these factors created a "perfect storm" as a result of which investors began to lose money.

Recession risks in the US

Three years ago, inflation in the United States began to rise sharply. This was caused by large-scale programs of state assistance to the population and business during the coronavirus pandemic. By the end of 2021, inflation reached 7%, which was a record since 1982. In 2022, following Russia's invasion of Ukraine, energy prices jumped, dealing an additional blow to producers. As a result, inflation peaked at 9%.

In response, the US Federal Reserve System (Fed) began to raise the discount rate. Until March 2022, the rate was almost at zero, and by 2023 it rose to 5.25-5.5%, which was the highest in 20 years. High rates help keep inflation in check, but also put the brakes on economic activity by making loans too expensive. Throughout the year, the rate remained unchanged, inflation slowed down, and some economists began to talk about the need to reduce it to avoid a recession. All expectations were directed to the September meeting. Fed Chairman Jerome Powell said that policy easing could be discussed in the fall if inflation declines, the economy remains strong enough, and the labor market is stable.

However, this forecast did not last long. On August 2, the US Department of Labor reported that the unemployment rate rose to 4.3%, the highest rate since 2021. The number of jobs for the month increased by 114 thousand, while analysts expected an increase of 175 thousand and the unemployment rate to remain at the same level.

The slowdown in the U.S. economy is bad news for its trading partners. If American consumers buy fewer goods and services, this will affect the production of companies from other jurisdictions. Therefore, on August 5 became cheaper Shares of British, German, French, South Korean, Taiwanese and Turkish companies. How to said on CNN, "When the U.S. has a cold, the rest of the world has pneumonia."

BigTech Problems

The technology sector makes up a significant part of American stock indices. In the S&P 500, for example, the market capitalization of just seven companies was larger than the combined capitalization of the industrial, consumer, commodity, energy, utilities, and construction sectors. In the first four months of the year, this abnormal growth continued: Nvidia shares rose by 80%, Meta — by 48%, Amazon — by 24%, while Alphabet and Microsoft added 14% each. However, then investors, having considered the ratio of earnings to capitalization, began to express fears about a possible "bubble" reminiscent of the dot-com crisis. Bloomberg notes that the market has begun to doubt that significant investments in the development of artificial intelligence (AI) will pay off in the future.

As a result, during the sell-off on August 5 in the US, the Nasdaq technology index Fell faster than other broad-based indices.

Seasonality

Bloomberg points out that the global turmoil fell unsuccessfully in August: at this time, investors are on vacation, which is why there is not much money circulating in the market. As a result, each trade has a greater impact on quotes than at the height of the business season. That is, the fall in indices could be more modest.

Strong Japanese Yen

This factor is rather local, but it is what made Japan the epicenter of the international market collapse. writes Bloomberg.

A brief excursus: Japan has had negative interest rates for eight years. This made savings in yen unattractive, and loans, on the contrary, in demand. When the Fed began to raise the discount rate due to post-COVID inflation, investors began to use the carry trade mechanism: borrow in yen (at a low rate), convert them into dollars and invest in American assets (with high yields). As a result, the yen weakened to its lowest since 1986. Bloomberg points out that many have bet on further depreciation, going short and not responding to public concerns from the local government. In vain: in March, the Bank of Japan raised the rate for the first time in 17 years, making it positive, and in July it tightened policy even more.

The yen began to strengthen. For the residents of Japan, this is good news: imported goods will stop becoming more expensive. But for the stock market, such an unexpected reversal turned into losses for several reasons at once.

1. Firstly, exporters will receive less revenue for their goods, their shares have fallen. Exporters' securities were held by local banks, which now have an impaired asset on their balance sheets, and their shares also fell.
2. Investors who "shorted" the yen had to close the position to avoid losses - for this they had to sell other shares, which fell because of this. Closing the "short" means buying the yen on the exchange, which automatically makes it even stronger. The circle is closed.

As a result, the Japanese Nikkei index on August 5 collapsed stronger than any other national index in the world - by 12% at once. This is an anti-record since 1987.

What awaits the market next?

At the moment, the situation remains uncertain. On August 5, the VIX index, which is called the "Wall Street fear indicator", reached its highest values since the pandemic, amounting to 38.5 points. This indicator reflects potential fluctuations in the S&P 500, but does not indicate the direction of these changes.

Some investors hope that the Fed will hold an extraordinary meeting and cut the rate earlier than planned in September. However, Moody's chief economist Mark Zandi believes that this will not happen, as the Fed takes such measures only in emergency situations, as it was in March 2020 due to the pandemic. Economist Yegor Susin also warns that any emergency decisions could increase panic. In his opinion, changes in the Fed's policy are necessary only in the event of a threat to financial stability. A Fed spokesman confirmed that the regulator is not obliged to monitor the comfort of the stock market.

In addition, there are doubts about the risks of recession. Some analysts suspect that the unemployment data may be unreliable, as the number of people out of work due to weather conditions unexpectedly increased in July. Also, the pace of creating new jobs is not critical - 114 thousand vacancies in July are not so much compared to the loss of 20 million at the height of the pandemic. The U.S. economy, despite high rates, continues to grow, and GDP and consumer activity remain stable. Inflation is slowing down, and forecasts for its decline remain positive.

The global stock market lost $6.4 trillion in a day, but analysts believe that this reaction was excessive. Aricapital CEO Alexei Tretyakov believes that the market was overheated, and EY Chief Economist Gregory Daco suggests that the Fed may cut rates at the remaining meetings of the year if the current situation does not change. If that doesn't happen, Wall Street could rebel against current policies.