Deutsche Bank noted that the recent turmoil on Wall Street was short-lived, but also warned that although markets have stabilized, many of the factors that triggered the sell-off have not disappeared.

The US Nonfarm Payrolls report from July earlier this month showed significantly lower than expected employment growth and an unemployment rate of 4.3%. The latter figure triggered the so-called Sahm rule, which states that the economy is in recession if the three-month average of the unemployment rate increases by half a percentage point within a year.

The report sparked recession concerns and caused the benchmark S&P 500 (SP500) index to plunge 3% on August 5, a day now known as “Black Monday 2024.” The decline also left the index 8.5% below its record closing price.

But the markets have recovered significantly since then; the S&P (SP500) gained 8 percent at its last closing price.

“When you look at the markets, it is striking how brief the recent turmoil has been. In many ways, it is an even faster version of what happened after the collapse of SVB in March 2023, when volatility rose rapidly before subsiding again,” Deutsche Bank’s Henry Allen said in a research note on Monday.

“But even though markets have stabilized, some of the fundamental factors that caused the sell-off have not gone away. Data has become increasingly weaker on a global level, falling inflation means monetary policy is becoming increasingly tight in real terms, geopolitical concerns are increasing and we are heading into a seasonally difficult period,” Allen added.

According to Deutsche Bank, the sell-off was brief for several reasons. First, although July nonfarm numbers were worse than expected, they did not reach the levels that usually accompany recessions. Second, the data came in stronger after the jobs report, easing fears of an economic slowdown.

The brokerage house cited dovish signals from Japanese monetary policymakers following the market turbulence and the relatively limited nature of the selling wave as further reasons.

“Could there be another sell-off?” asked Allen of Deutsche Bank.

The analyst then identified the following factors as catalysts that could reignite the sell-off:

• “Equity valuations are high by historical standards and positioning is overweight. Our colleagues in equity strategy have noted that their measure of aggregate equity positioning has risen back to moderately overweight (63rd percentile). Traditional valuation metrics such as CAPE also remain high by historical standards.”
• “Economic data has become increasingly weaker at the global level“While non-farm payrolls may not have been in recession territory, there is little doubt that the US labor market is slowing… The broader data have shown signs of a downward trend. In the euro area, for example, the composite PMI has fallen over the past two months and is now at 50.2, barely in expansion territory.”
• “Monetary policy is becoming increasingly restrictive in real terms, while the QT strategy continues to run in the background“Even if central banks leave interest rates unchanged, falling inflation means that their monetary policy will become more restrictive in real terms.”
• “We are entering a difficult seasonal period and September has been a very bad month for the markets in recent years.. Late summer and September have often been weak times for markets. In fact, the S&P 500 (SP500) has lost ground in each of the last four Septembers and seven of the last ten Septembers.”
• “Geopolitical tensions remain high at present.“

“Markets have just had a few eventful weeks, but volatility quickly subsided and the VIX index closed below 15 again on Friday. But even though the volatility is over, many of the causes of the sell-off have not disappeared,” concluded Allen of Deutsche Bank.

Here are some exchange-traded funds that track the benchmark S&P 500 (SP500): (SPY), (VOO), (IVV), (RSP), (SSO), (UPRO), (SH), (SDS) and (SPXU).

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