Starting Monday, the president pushed back strongly against the nuclear ambitions of North Korea, resulting in the escalation of the conflict and increased market volatility. The VIX volatility index jumped up in response.
However, looking at the 10-year chart of the VIX, the equity market still has very low volatility and does not signal a serious geopolitical risk:
Not surprisingly, the South Korean market responded negatively to the events, but in our view, the selloff did not break the long-term uptrend yet:
The next question is, how much damage do we see in the US equity markets? While the selloff took market observers by surprise and many negative reports appeared in the financial media, we think that the long-term uptrend of the S&P 500 index is still intact, but it is at a tipping point:
Furthermore, we also think that the long-term uptrend for the stock markets of the Southeast Asia region is still up, for now:
How did the flight to safety investments perform during the selloff? First, let’s look at gold. Gold stocks rallied, but modestly. Our interpretation is that gold investors do not see a dramatic escalation of the Korean conflict yet:
Also, Treasury yields are trending lower, which shows that the demand for US bonds, another traditional flight to safety play, did not spike in response to South Korean threats:
How does the chain of events impact the sectors of the market? We think that we are seeing a significant change of market leadership that was triggered by, but not caused by the Korean crisis. We also see an apparent shift in sentiment that can reinforce sector rotation.
First of all, as expected, defense and utilities, which are traditionally conservative investments, are still doing well:
On the other hand, the price of crude oil is not improving, which leads to weakness in the energy sector:
The selloff in technology, one of the market leaders in 2017, is modest:
What to do next? In our opinion, the key is to follow the market-leading sectors and international investments in Europe and Asia. If they cannot recover from the selloff, we think that the whole market is in trouble, but if investors will start to buy the dip again, which worked so well for seven years, we would probably want to take a new look at the strongest sectors.