AXIOMA ROOF™ SCORE HIGHLIGHTS

• US: Retail sales, industrial production, export and import prices, building permits, and housing starts data. Several Fed officials speeches. And earnings from GS, BlackRock, UnitedHealth, BoA, Morgan Stanley, Charles Schwab, J&J, Netflix, and Amex.
• Europe: UK inflation rates, consumer confidence and retails sales, and unemployment data. Germany’s economic sentiment index.
• APAC: China's Communist Party’s Third Plenum and GDP growth rate, industrial production, retail sales, unemployment rate, and fixed asset investments data. Japan and Australia inflation rates.
• Global: Focus now turns to the US Presidential election (November 5^th) with the RNC and DNC in the next two months. Investors will also keep an eye on developments in Gaza and Ukraine.

Investor sentiment continued to improve last week, concluding on a bullish note in nearly six out of the ten markets we monitor (sentiment in the US fell just 0.01 short of bullish). Only European investors remained negative, although their sentiment was less pessimistic compared to the previous week. Sentiment in China remains bullish in anticipation of the Communist Party’s Third Plenum, a traditional occasion for the announcement of significant stimulus measures. Sentiment in Global Emerging Markets was positive, while in Japan and Global Developed ex-US markets, sentiment remained neutral.

This week, attention will be focused on China and the Communist Party’s Third Plenum, especially in light of the significant shortfalls in Q2 GDP growth rate (4.7% vs 5.0% expected and 5.3% in Q1), Retail Sales for June (+2% vs 3.3% expected, 3.7% in May), and the continued decline in June Industrial Production data from 5.6% to 5.3%, all announced on Monday morning. These figures heighten expectations for the announcement of a substantial stimulus package this week and increase the potential for significant disappointment if such a package is not presented.

In the US, barring any further political violence, the spotlight will be on corporate earnings reports. The current consensus forecast for Q2, according to Factset, is set between +9.3% and 12%. A focus on company-specific news is expected to continue increasing dispersion and reducing common factor risk, fostering a positive risk-return environment for investors unless one or more of the Magnificent Seven report disappointing results.

The calculus of investing is comprised of two distinct languages: the language of return, which quantifies what we already know, and the language of risk, which quantifies what we do not yet know. The former is factual and is used to describe historical occurrences. The latter is causal and is employed to address counterfactual queries such as, “What could happen if this other thing does not happen?”. In essence, the language of return answers "What?" questions, whereas the language of risk addresses "Why?" questions, grounded in causal rather than statistical logic.

Risk estimates derived from a fundamental multifactor model, such as those produced by Axioma, aim to quantify all key causal relationships in equity markets - relationships that are significant and whose impact would be notably different from what could be explained without them. Viewed in this context, when the model forecasts a low level of risk in markets, it implies that these causal relationships, in aggregate, do not currently make a substantial difference. The practical interpretation of this low risk forecast for investors is that their current strategies do not require to be rebalanced, as theoretically, “Nothing much could happen if this other thing does not happen”.

Sentiment, as defined by the ROOF Scores, is risk-based. It leverages the causal relationships described by the fundamental risk model, alongside the observed preferences of investors in the market at any given time, for strategies that leverages these relationships to either maximize gains (risk-tolerant) or minimize losses (risk-averse). The current combination of low-risk forecasts and a bullish sentiment across most markets indicates that investors perceive little likelihood of dramatic changes in the near term.

However, how can this be reconciled with the high levels of uncertainty from the current geopolitical situation? Conflicts are intensifying in both Gaza and Ukraine, European elections signal significant changes ahead for the UK, there is governmental dysfunction in France, a stalemate in Germany, and the US election is poised to bring about substantial changes in both domestic and foreign policies. Additionally, the US has recently witnessed its first act of political violence since the first term of the Obama administration. Perhaps it is precisely this combination of high uncertainty and the unpredictability of future returns, coupled with a seemingly benign causal reaction as predicted by risk models, that convinces investors to stay the course, for now. Is it a case of "what you don’t know can’t hurt you"?

Changes to investor sentiment over the past 180 days for the markets we follow:

How to Interpret These Charts:

Top Charts:

The top charts illustrate the ROOF ratio, which represents investor sentiment. This ratio is depicted in green on the left axis, while the cumulative returns of the underlying market are shown in black on the right axis. Key reference lines include:

• A horizontal red line at -0.5 (left axis), marking the threshold between negative sentiment (-0.2 to -0.5) and bearish sentiment (< -0.5).
• A horizontal blue line at +0.5 (left axis), indicating the boundary between positive sentiment (+0.2 to +0.5) and bullish sentiment (> +0.5).
• A horizontal grey line at 0.0 (left axis), around which sentiment is considered neutral (-0.2 to +0.2).

Bottom Charts:

The bottom charts display the levels of risk tolerance (green line) and risk aversion (red line) within the market, representing investors' demand and supply for risk, respectively. Key insights include:

• When risk tolerance (green line) exceeds risk aversion (red line), more investors are willing to buy risk assets than there are investors willing to sell them at the current price. This scenario forces risk-tolerant investors to offer a premium to entice more risk-averse investors to trade, thereby driving markets upward.
• Conversely, when risk aversion (red line) surpasses risk tolerance (green line), the market dynamics reverse.

The net balance between risk tolerance and risk aversion levels is used to compute the ROOF ratio shown in the top charts, reflecting the sentiment of the average investor in the market.

Blue Shaded Zone:

The blue shaded zone between levels 3 and 4 for both indicators signifies a reasonable balance between the supply and demand for risk in the market. When both lines remain within this blue zone, the market is considered stable. However, when both lines move outside this zone, the significant imbalance in demand and supply for risk can lead to overreactions to unexpected news or risk events.