Don't Let the Bowl Break

A crisis erupts. Stock markets fall. Gold and the dollar rise. By now everyone knows this market reflex by heart. No matter how accustomed we become, a crisis still triggers panic and selling begins. Those holding stocks—especially in risky markets—tend to sell first. As sales accelerate, stock markets in those regions decline.

The second wave follows quickly. The proceeds from these sales are converted into dollars and transferred out of the country. As demand for dollars rises, the USD/local currency exchange rate increases. Even citizens who do not normally invest in the stock market start converting their savings into dollars or buying gold when they see the dollar climb. This, in turn, pushes exchange rates and gold prices even higher.

One might assume that if a crisis originates in the United States—or if the US itself is the source of the crisis—the dollar would weaken. Yet the opposite often happens. Foreign investors who hold assets in emerging markets typically convert their funds into dollars when they withdraw in order to avoid risk. As a result, the dollar rises rather than falls.

During the recent US–Israel–Iran war, for example, the Dollar Index (DXY) did not decline; it rose modestly. A similar pattern appeared in US Treasury yields. By contrast, US stock markets—led by the Dow Jones Industrial Average—had entered a downward trend. As of yesterday, however, they too began to recover.

Observing the market’s reaction, Goldman Sachs CEO David Solomon expressed his surprise:

“I look at the market reaction and, frankly, I would have expected a sharper reaction to an event of this magnitude.”

In fact, this surprise points to something that is not entirely new. Since the early twenty-first century, when capital movements became fully liberalized, the market’s response to crises has gradually evolved. Modern financial markets cannot avoid crises, but they have become increasingly adept at digesting them quickly—and often turning them into opportunities.

For today’s fund managers, the US–Israel–Iran war is merely a “change in parameters.” When war risk rises, algorithms instantly exit aviation stocks and move into defense companies. The money does not leave the system; it simply changes clothes. This rotation prevents the overall market index—the water in the bowl—from draining.

Things are very different for investors in the real economy. A factory, a hotel, or an airline cannot relocate or transform itself overnight. Consider those invested in tourism or aviation. If a war lasts longer and becomes more serious, the losses they face can be long-lasting and costly. Nor is it easy for such investors to abandon their businesses—especially in an environment where no buyers can be found for tourism or airline companies.

What I am referring to here are financial investors: holders of deposits, bonds, stocks, foreign exchange, gold, and similar assets. Those who fail to make timely decisions about the form or location of their investments may face serious losses. Investors who buy at the peak of a rising market, for example, often cannot sell easily because they encounter losses before they can realize any profit. They wait for conditions to improve. At first they tolerate the loss, but eventually many are forced to sell and accept it.

Others delay taking profits because they believe prices will continue to rise. When prices begin to fall, they end up selling as they approach a loss. In the end, they lose the profit they might have secured earlier.

While some investors sell to lock in gains and others sell to limit losses, another group begins buying, believing that “the time to buy has come.” These opposing movements often prevent financial markets from collapsing outright.

In earlier times, when capital movements were restricted and investors were largely confined to their own national markets, such rebalancing occurred far less easily. Today, American money circulates in Europe, European money in the Far East, and Far Eastern money in Latin America. Thus, when an American investor exits a European bond market, a Far Eastern investor may step in and buy those same bonds. Even if bond yields initially fall, they may rise again shortly thereafter.

This market behavior reminded me of a passage from Kemal Tahir’s novel People of the Enslaved City[i]:

“…I had a friend who was a reserve officer… I ran into him the other day… I asked whether he would cross over to Anatolia to join the war of liberation. Without any shame he said no. ‘I won’t get involved. To be honest, I’ve lost my nerve,’ he said. His mother had received news of his death several times, because he had stayed among the enemy for weeks. We all believed he was dead…‘We returned to Istanbul,’ he said. ‘One evening… I was walking up the slope in our neighborhood at dusk. A woman in a cloak was walking down. Somehow I recognized my mother. She was going to the grocer to buy yogurt. I was so overwhelmed that I leaned against the wall and waited. When she reached me, I said: “Mother.”…Do you know what she did? She bent down, put the bowl she was carrying on the ground, and hugged me. While we stood there crying, I swear her mind was still on that bowl she had placed on the ground. “Oh, let it not break!” I had thrown myself into death perhaps a hundred times, as if I were less valuable than that bowl… Yet my mother could not risk breaking a chipped bowl for her son who had returned from the grave. Later I visited relatives, friends, neighbors. In all of them I saw the same thing: this inability to throw down the bowl.”

Today the market moves not with its conscience but with its calculator. People dying and cities being destroyed are human tragedies. For the market, however, they are merely supply-chain disruptions.

I once described this phenomenon with a concept I called “Market Indifference.”[ii] What we are witnessing today appears to be another example of it.

In financial markets, it seems that everyone’s mind is on that bowl: Don’t let it break.

 

---

[i] turkedebiyati.org/esir-sehrin-insanlari-kemal-tahir/ 

[ii] https://www.mahfiegilmez.com/2017/12/piyasa-aldrmazlg.html