Market Brief – Wednesday 10/10/18

The computers started selling. I have been warning for the past couple of years that this market has been traded mostly by computers, with some experts indicating that 90% of all trades are computer driven. Since these machines have taken over trading, we’ve never seen them sell. Until now.

According to Nomura’s cross-asset quant division, the recent selling has to do with CTAs delivering their S&P 500 futures position from 97% to 77%. Nomura’s team indicates these computer trading algorithms are likely to drop their allocation to the S&P 500 to 57% should index futures close below 2,895, which they did. Today’s move down has the potential to spark a feedback loop which could cause other computer algorithms to sell stocks and buy bonds.

Treasury yields nudged higher as the market believes higher U.S. debt issuance should lead to higher interest rates. Interest rates are a function of lending demand, which according to the weekly Mortgage Bankers Association mortgage application survey, shows continued weakened lending demand.

I mentioned yesterday that $230 billion of Treasuries were scheduled to be auctioned this week, but I should have stated that is the amount for the entire month of October. Today’s 3-year Treasury auction saw tepid demand and today’s 10-year Treasury auction saw strong foreign demand with foreigners snapping up 64.5% of the auction. Direct bidders were largely absent, with securities dealers forced to accept the rest of the auction. Dealers don’t like to lose money, so look for the bond market to turn the other direction as dealers look to unload their inventory.

Computer algorithms sold off early which likely triggered margin calls, forcing more investors to sell. This was not a massive sell-off, as indicated by the trading volume. Today’s move down was more a function of volatility, which spiked over 40%. I expect the risk-parity algorithms to start selling tonight, which should lead to more selling tomorrow. Selling into an illiquid market is a quick way to bring stocks down.