NEWSFeb 08, 2018

US Stock Market Plunges Due to Shock of Interest Rate and Market Panic

On 5th February, the U.S. stock market suffered an overall plunge. The S&P 500 index lost 113.19 points and declined 4.10% to 2648.94 points; the Dow Jones Industrial Average index suffered an 1175.21 points decline and fell 4.60% to 24345.75 points; the NASDAQ index closed at 6967.53 points with a loss of 273.42 points, which indicates a 3.78% decline.
The situation was mainly caused by the interest rate and overall market panic.

In the January report, the Federal Reserve Board (FRB) said it expected inflation to increase and reach its target of 2% by mid-year, which is widely believed to be an indicator of interest rate hike. According to a closely watched report released by the Labor Department on last Friday, non-farm payroll employment surged by 200,000 in January, which was 20,000 more than expected. Average hourly wage year-on-year accelerated to 2.9% from the expected value of 2.6%. Unemployment rate maintained at 4.1% in January, which was the lowest level in 17 years. The market expects that rise in inflation may lead the FRB to become more aggressive towards raising interest rates.

Moreover, the yield of the U.S. Treasury bonds continued the upward trend, with the yield of 10-year Treasury bond exceeding 2.88%. The increase of 10-year Treasury bond yield, which is a typical represent of risk-free interest rate, will lead to the repricing of financial assets. As a result, the equilibrium stock price declines and transaction prices decreases follows.

Meanwhile, Volatility Index (VIX), which is widely used to measure market volatility, raised 115.60% to 37.32, marking its sharpest daily rise on records. Sellers increased sell orders while buyers tended to be more cautious, leading to lack of market liquidity. Goldman Sachs believed that the decline in the S&P index broke down the key point of algorithmic trading, triggering a radical selling of CTA funds. CTA strategy utilizes short-term trends, long the upward trend and short the downward trend. Goldman Sachs said, CTA funds will start selling automatically when the market suggests a decline trend, putting downward pressure on the market and may cause the sale of funds using risk parity strategy.

With long-time loose monetary policy and low interest rates, the major U.S. stocks indexes are valued at historic highs. Mike Wilson, the Chief Investment Officer of Morgan Stanley Wealth Management, said that when the impact of tax reform on corporate performance gradually diminished, the uncertainty of future earnings of listed companies will increase as well as the volatility of stock market. Therefore, the U.S. financial market is very risky now. The United States is still implementing fiscal stimulus with loose monetary policy, low interest rates and inflation levels. A reasonable adjustment will help reduce bubbles in the stock market and promote the healthy development of the U.S. stock market. The United States needs to balance the economic growth and financial market stability. If they focus on the economic growth, maintain the target inflation level and continue to raise interest rates regardless of the actual financial market conditions and investor sentiment, the next round of financial crisis may happen.

Data Source: Yahoo Finance
Get Desupline Insights delivered to your inbox.