Goldman Sachs top trader: Hold steady your investment portfolio, August liquidity is tight, we are entering a "busy autumn"

As of this Thursday, the S&P 500 index has risen by over 6% in the past six trading days, completely recovering all the declines this month, including last week's "Black Monday", and is only 2.2% away from the closing historical high of last month. The brutal plunge last week seems like a thing of the past, everything is back to square one.

Tony Pasquariello, Goldman Sachs' top trader and global head of hedge fund business, pointed out in a recent report that in the past ten days, none of the events that the market was worried about actually occurred. The recent volatility shock did not return, and there were no major events during the U.S. night session. Both macroscopically and microscopically, this week looks positive, and the U.S. stock market has clearly stabilized. But does this mean we can rest easy?

Pasquariello mentioned that he has started to consider whether this period should be seen as a turning point, indicating some changes within the system. He advised investors to stabilize their portfolios because the autumn ahead will be "exceptionally busy." He wrote:

"As we transition from the liquidity drought of August to the exceptionally busy autumn, I expect the trading environment to remain turbulent, so I will maintain the stability of the portfolio and reduce assets to the highest quality."

Pasquariello listed the following eight key points of concern:

What narrative will market participants attach to next?

There have been many narrative fluctuations recently. Since late March, the narrative has shifted from reflation trades, assumed soft landings, transitions to minor financial pressures, to significant local resilience tones. Pasquariello speculates that the market will continue to swing from one theme to another, and he is unsure if a clear narrative will persist until the U.S. election.

Federal Reserve

Ahead of next week's Jackson Hole global central bank annual meeting, Goldman Sachs predicts that the Fed will decide to cut interest rates by 25 basis points at the upcoming meetings in September, November, and December, followed by a rate cut every quarter next year, with another cut in 2026. Ultimately, the Fed's policy rate, the federal funds rate, should be about 200 basis points lower than the level of the past 13 months.

If the Fed's actions are more aggressive than the above forecast, it may require a shockingly bad employment report or a significant tightening of the financial environment. The current financial environment is still looser compared to the average level last year.

U.S. Economy

The data released this week once again showed improvement, especially in CPI, retail sales, and initial jobless claims. From a broader perspective, since the end of last year, U.S. economic growth has objectively slowed down, but Goldman Sachs' U.S. economists still do not believe that a recession is imminent.

U.S. Consumers

From the micro and macro information received this week, the overall consumption situation in the U.S. is not as bad as the market feared. Just look at the stock performance of Walmart (WMT) and Home Depot (HD) for reference From a broader perspective, consumer spending in the United States has slowed significantly in recent months, with significant pressure at the lower end. Pasquariello acknowledges the downturn but points out that the US is still in a full employment environment, actual disposable income is still growing, household balance sheets are at historically strong levels, and household net worth has increased by over $50 trillion during the COVID-19 pandemic.

Overall, while the current environment poses greater risks than earlier this year, Pasquariello does not believe that US consumer spending has bottomed out.

Fund Flows/Positions

Firstly, looking from the very high point in July, Pasquariello believes that since the peak in July, speculators have cleared a significant amount of long positions, as evident in Goldman Sachs' prime brokerage business and CFTC reports on index positions.

Secondly, both households and fund managers who only have long strategies have not lost courage after the recent stock market volatility. Finally, US stocks are back in a prime position for stock buybacks, with a significant increase in buybacks last week, possibly around $5 billion per day.

In conclusion, although Pasquariello is still monitoring the remaining long positions, the current fund flows are a net tailwind for the market.

Japan

The trading on "Black Monday" on August 5th was extremely volatile, and Japanese stocks have staged a remarkable comeback. Goldman Sachs' strategic team's view on Japanese stocks is that they are down but not out.

In Pasquariello's view, the basic bullish thesis for Japanese stocks still holds value: shareholder reforms, negative real interest rates, and the right combination of structural winners (semiconductors, defense). However, he is now concerned about capital flows. Last week, Goldman Sachs' franchise capital flow experienced the largest sell-off in five years. He suspects that the risk-return ratio will remain unclear for some time.

Pasquariello quotes John Joyce, an expert in Goldman Sachs' Asian franchise, saying:

"It takes about three months for an escalator to go up. It takes three days for an elevator to go down... Trading like an emerging market will only increase the strict scrutiny of Japan's future narrative, making the strategist's job more challenging.

The benefits of a weak yen will be questioned, valuation expansion will need to be profit-centric, which will make Japanese trading lose the 'easy' part."

Joyce suggests that there may be a paradigm shift in the Japanese trading circle, leaning more towards individual stock alpha. Stock pickers who were concerned about the yen depreciation now need to have confidence in sustainability.

Trends that won't be interrupted

Pasquariello says he is always attracted to trends that do not break when trading mechanisms change. He has previously mentioned the trading pairs of high-quality companies and low-quality companies at Goldman Sachs. When he admits he doesn't have much confidence in the overall direction of the market, he won't overlook this theme

US One-Year Interest Rate, One-Year Forward Interest Rate Chart

Pasquariello expects that the fluctuation range shown in the above chart will persist for a longer period, however, the asymmetry thereafter will be significantly biased towards the lower end of the distribution range.

In summary, Pasquariello's view on market risk-return ratio is:

• The US economy is enduring, and the Federal Reserve will cut interest rates by a total of 200 basis points. This is a healthy macro environment for risk assets.
• However, the market will continue to focus on growth trajectory and political/geopolitical news.
• In addition, the narrative around Artificial Intelligence (AI) is not as one-sided as it was a few months ago