Beyond Bulls & Bears


Notes from the Trading Desk—Europe

Franklin Templeton’s Notes from the Trading Desk offers a weekly overview of what our professional traders and analysts are watching in the markets. The European desk is manned by eight professionals based in Edinburgh, Scotland, with an average of 15 years of experience whose job it is to monitor the markets around the world. Their views are theirs alone and are not intended to be construed as investment advice.

The Digest

Last week was certainly an interesting one for markets as the GameStop/Reddit/Melvin saga dominated headlines and led to volatility and deleveraging. The S&P 500 Index closed down 3.3% as global equity markets had their worst week of performance since October last year. This US-centric story spilled over into Europe, with the STOXX Europe 600 Index down 3.1%. Vaccine concerns for Europe, the kickoff of earnings season, and Italian politics were also drivers of the performance last week. Markets in the Asia Pacific (APAC) region were also lower across the board, with the MSCI Asia Pacific Index down 4.4% on the week.1

What Happened Last Week?

A large group of retail investors connected via a Reddit forum decided to start buying some of the most shorted stocks in the United States. Some investors genuinely liked these stock, some wanted to target hedge-fund short sellers and some just enjoyed the ride of getting involved in what we’re now calling ‘meme’ stocks, which basically means a stock heavily influenced by people online.

GameStop is a US company that sells video games at brick-and-mortar stores (shopping malls) and was the first target to draw attention. There are plenty of investors who believe this is a dying business and thus shorted the stock (they were collectively short by more than GameStop’s entire free float). The Redditors collectively triggered a short/gamma squeeze in the stock, by buying shares and call options. Further weight was added when Elon Musk jumped on the bandwagon and tweeted his support for GameStop. GameStop closed the week up 400%. To give an idea of scale, it traded over US$100 billion on the week—more than Apple or Amazon.

Hedge fund Melvin Capital was hit hard by its large short position in GameStop and had to be bailed out by fellow hedge funds Point72 and Citadel and eventually closed out their short position, crystallising their losses. As the Redditors added more stocks to their target lists, we saw a rush to cover crowded short positions, creating volatility and immense pain for short-sellers.

We saw material deleveraging in other hedge funds forced to cover shorts and unwind consensus long positions as a result—contributing to the broader market selloff. Retail trading platform Robinhood tried to stop the pile on by restricting trades in the most impacted names, but the pushback was swift. Robinhood customers sued the platform shortly after the restrictions were put in place and US politicians even got involved in the fray, calling for investigations into the activity.

Whilst all of this was very US-centric, it was interesting to see the dynamic filter through to Europe. Midweek saw some aggressive deleveraging in crowded hedge-fund positions, which again migrated into selling of longs in the second half of the week. It’s worth noting that it wasn’t just impacting equities, with the Redditors targeting silver towards the end of the week. This is in turn boosted metals-related stocks and is still garnering a lot of attention as we kick off a new trading week.

The European retail market is different from the US market, as there aren’t the same widely used trading platforms such as Robinhood, which actually cancelled a planned launch in the United Kingdom last summer. There is certainly retail exposure to markets in Europe, but European investors have tended to be more risk-averse, more likely to use mutual funds for market exposure, and until now, we have not seen the same types of retail ‘mob’ actions to the same degree as seen in the United States.

That said, we did see extreme volatility in Nokia last week after the stock’s American Depository Receipts were targeted on Reddit, although the company stated it wasn’t aware of any material change in its business that would account for such magnified interest or such extreme moves.

The UK regulator Financial Conduct Authority (FCA) issued a statement that it ‘is aware of the situation and continues to closely monitor trading in UK markets. UK investors should take care when trading shares in highly volatile market conditions that they fully understand the risks they are taking. This applies to UK investors trading both US and UK stocks’.

(As an aside, Nottingham’s World Wide Robin Hood Society—to promote tales of Robin Hood— saw followers surge from under 400 to 50,000 over the past week. Investors seemingly mistook it for the Robinhood trading app Twitter feed. The Society gave ‘a big welcome from Sherwood’ 😊 but reminded new followers it was not associated with the trading app.)   

European Union (EU) Vaccine Supply Concerns

Sentiment around the speed of the COVID-19 vaccination programme in Europe took a hit with the EU and UK drugmaker AstraZeneca facing off against each other. The issue centred around a deal which was agreed back in August 2020, wherein 300 million doses would be delivered to the EU post-approval. With that, the EU was expecting 100 million doses by the end of March 2021, but it appears expectations are now just for 25 million doses delivered in that timeframe. AstraZeneca has cited issues at its plants in the Netherlands and Belgium, and insists that the agreement was always made on a ‘best efforts’ basis, which the EU disputes.

The added complication is that there have been no reported complications in its contract with the UK government; the drugmaker said its contract with UK authorities was signed a lot sooner, meaning they could iron out any issues. However, the EU was not happy, and we heard warnings of a ‘vaccine war’.

The EU vaccination programme is lagging far behind the United Kingdom. Based on data from 28 January, the UK has vaccinated 11.4% of its population1, compared with just 2.3% around the EU. With the latest setback in regards to EU vaccine supply, it’s unclear whether the pace the bloc requires will accelerate. There is clear pressure for the EU to resolve these supply issues. There is clear anger from the European Commission, as AstraZeneca’s supply to the United Kingdom appears to have been unimpacted, UK infection rates continue to drop, as they have done for nearly three weeks .The number of hospitalisations and deaths also have shown signs of plateauing.

The good news is that infection rates in the EU are also falling, even with a smaller proportion of the population vaccinated. It’s unclear what the impact will be on the number of people who fall seriously ill, however.

From a political perspective, the disparity in production levels by AstraZeneca between supply to the United Kingdom and EU puts the two on what could prove their first serious post-Brexit collision course. Any prolonged EU lockdown due to vaccine shortages could be a potential headwind for markets into spring.

In a slight easing of tensions late Friday, Brussels retreated from plans to create border restrictions between the Republic of Ireland and Northern Ireland. The plan had been intended to clamp down on vaccine exports from the EU, but unsurprisingly received strong criticism from politicians in the United Kingdom and Ireland.

Week in Review


European equity markets were broadly lower given the widespread risk-off theme throughout the week, with the STOXX Europe 600 Index closing the week lower. As noted, significant hedge-fund activity saw equity markets come under pressure and volatility was on the rise, culminating in the worst week for European equities since October 2020. As mentioned, a frustrating start to the COVID-19 vaccination programme in the EU added market uncertainty. Telecommunications and real estate were the only two sectors to close in the green for the week. On the flip side, oil and gas stocks, basic resources and insurers were all lower on the week.

In Italian politics, the stakes are high after Prime Minister Giuseppe Conte resigned last week. Italy needs a stable government to decide how to spend the country’s EU grant to counter the COVID-19 recession. President Sergio Mattarella began a round of consultations following the resignation to assess political party positions on the shape of the next government. Conte is expected to try to form a new coalition, but if he is not able to do so, Mattarella will see if a new coalition can be formed. The composition of the eventual ruling coalition will be key in terms of policy direction. Fresh elections also remain a risk, with Deputy Prime Minister Matteo Salvini having told the president last  Friday that the Centre-Right wants elections. Negotiations between the former majority parties will continue in order to find an agreement, and Mattarella may appoint a new prime minister or ask for new negotiations to be held. Expectations are for a new government to be formed and hopes are that early elections avoided.

In terms of macro data, fourth-quarter gross domestic product (GDP) reports for Germany, Spain and France were better than expected, suggesting the economic impact for the final quarter last year wasn’t as bad as feared. On earnings, 66.7% of STOXX 600 companies which have reported have beaten estimates so far; however, last week’s market dynamics meant that this wasn’t necessarily rewarded in stock price action.

United States

A memorable week for US markets with a wall of noise around the GameStop and Reddit situation. By the end of the week, the S&P 500 Index and the Dow Jones Index were both down 3.3%. Market volumes were huge, with last Wednesday a record volume day in the United States (although not the highest notional).

Looking at sector performance, defensives outperformed, while utilities and consumer staples slumped. The energy space slumped 6.6% last week on concerns over the impact of US President Joe Biden administration’s green energy policies on the sector.

It was a big week for corporate earnings, with a number of heavyweights reporting. Of note, we had Apple and Tesla both trading lower after reporting, though given they were both up significantly over the past year, so a little profit- taking is not too surprising.

On Wednesday of last week, the Federal Reserve (Fed) meeting was a benign event for markets, with little impact on indices. There were no policy changes and Fed Chair Jerome Powell reassured that there were no imminent plans to tighten fiscal policy. He stated: ‘It’s just too early to be talking about dates’ for tapering and that ‘the whole focus on exit is premature’.

Another key focus for investors going forward is the Biden administration’s proposed stimulus package. Biden is keen for a bi-partisan approach between Democrats and Republicans, but this has proved challenging so far as the two sides of the US political spectrum wrangle over the details. In terms of timing, Senate Majority Leader Chuck Schumer has said Congress will try to pass a stimulus bill in about a month. If this package is significantly watered down or delayed, it could be a headwind for markets in coming months.

COVID-19 trends in the United States are encouraging, as hospitalisations and the daily new-case rate continue to moderate from early January peaks. Roughly 22 million Americans have now received at least one vaccine dose, covering nearly 20% of the high-priority population.

Looking at macro data, US GDP (annualised quarter over quarter) came in at 4%, a bit lower than expectations. Interestingly, we have seen some analysts upgrade growth forecasts for this year on hopes for continued progress in controlling COVID-19 via vaccinations, and more fiscal support for the economy.

Asia Pacific

Asian equities came under heavy pressure last week, with the MSCI Asia Pacific Index closing the week down 4.4%. The market dynamics were similar to what we saw in the United States and Europe, with hedge-fund deleveraging have a significant impact. US-China trade tensions also remained firmly in focus, which naturally weighed on risk sentiment. In terms of sector performance, consumer staples outperformed, but still finished down on the week. Energy, technology, and basic materials were the notable laggards.

Last Tuesday, the US White House said there would be no change to President Biden’s ‘patient’ approach to China and the administration will review the former administration’s policies. However, Biden is determined to ensure that China does not use US technology to support its ‘malign activities’.

At the World Economic Forum, President Xi Jinping warned of a ‘new cold war’ if the United States keeps up its protectionist policies. He said that COVID-19 should not be used as further reasoning for reversing globalisation in favour of ‘decoupling and seclusion’. This came after Biden also signed a ‘Buy American’ procurement policy to prioritise domestic manufacturing.

The United States is giving investors more time to wind down transactions with companies tied to the Chinese military as the Biden administration reviews former President Donald Trump’s policies. The Treasury Department extended the deadline to 27 May from the original 11 January date, but left the 11 November date for a full investment ban intact. For now, markets will remain on tenterhooks with regards to relations between the two global superpowers.

In terms of macro data, Chinese industrial profit soared on manufacturing strength.

Elsewhere, the Australian consumer price index (CPI) came in ahead of expectations on housing demand and following the unwinding of government subsidies. Japanese retail sales fell on weakness in department store sales. Also, Japanese core deflation moderated whilst the unemployment rate unexpectedly held steady.

Week Ahead

In the upcoming week, focus will be on the Bank of England (BoE) meeting on 4 February. Strong CPI and unemployment data combined with a hot housing market is increasing the risk of no quantitative easing (QE) extension, though the base case from many economists is an extension. The BoE is expected to publish its assessment of negative interest rates, and while there has been some support for it, leading vaccination rates in the United Kingdom should reduce some of the pressure for the BoE to cut.

It will be a busy week in the United States, with the Institute for Supply Management (ISM) manufacturing (1 February), ISM services (3 February), and January monthly employment report  (5 February) coming up.

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1. Indices are unmanaged and one cannot directly invest in them. They do not include fees, expenses or sales charges. Past performance is not an indicator or a guarantee of future results.

2. Source: Bloomberg, 29 January 2021.

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