Why the ASX 200 is having its worst day since March 2023 today

The S&P/ASX 200 fell for a fourth consecutive session on Tuesday, which dragged its year-to-date performance from recent peaks of 3.5% to just shy of breakeven .

The market has spent the majority of April selling off, down 3.6% so far this month compared to 2.6% gain it scored in March. This U-turn from euphoria to fear might have caught many investors off guard. We'll explore some of the key factors driving the recent selloff below.

Today's session

Before we dive in – here are some of the key things you should know about the Tuesday session.

• The Index finished the session down -1.81% but off session lows of -2.15%

• A close at -2.15% would have marked the worst session since 10 March 2023

• Every sector was red but yield-sensitive and growth led to the downside, most notably Discretionary (-2.4%), Utilities (-2.15%) and Real Estate (-1.92%).

• Breadth was unsurprisingly poor across the ASX 200, with 176 stocks finishing the session lower, 8 managed to breakeven while 16 ticked higher

• The ASX 200 closed below its 50-day moving average for the first time since mid-November 2023

ASX 200 12-month price chart with 50-day moving average line (Source: Market Index)

Rising geopolitical tensions

Over the weekend, Iran launched over 300 drones and missiles at Israel in a widely anticipated retaliatory strike following a suspected Israeli attack on its consulate in Syria. This represents Iran's first direct assault on Israeli territory from its own soil, raising fears of a broader regional conflict.

The conflict has only intensified after Israeli leaders plan to hit Iran "clearly and forcefully", according to reports on Monday.

Why it matters for markets: Rising geopolitical tensions has triggered a flight to safety, sending equities lower and safe havens like the US dollar, treasuries and gold higher.

The Fed and inflation

In early January, the bulled up market expected the Fed to cut seven times by year end. Now, it's expecting just two.

Bringing inflation down from 8-10% to 3-4% is easy. But the journey from 3-4% to 2-3% is incredibly difficult.

Getting inflation to 2.0% year-on-year by the end of 2024 would require month-on-month prints of 0.1% or less for the next six months. The only problem is that month-on-month US inflation has come in at:

• March 31, 2024: 0.38%

• February 29, 2024: 0.44%

• January 31, 2024: 0.31%

Over the last three months, US inflation has averaged 0.38% on a month-on-month basis. If this trend continues, it puts year-on-year inflation at 4.8% by year end.

Source: Bank of America

Ukraine's recent drone attacks on oil refineries in Russia and the Middle East tensions have pushed Brent crude prices to five-month highs of US$90 a barrel (which then feeds into more persistent inflation).

Uncomfortably high bond yields

Stocks were in deep pain when bond yields, like the US 2-year Treasury yield, was trading at 17 year highs of 5.2% in mid-late October 2023.

Yields are on the rise again and fast approaching the key (and psychological) ~5.0% level and nothing ever good happens at 5.0%. Remember the US regional bank crisis in March 2023? Or when the UK suffered a near pension and insurance sector implosion in October 2022?

US 2-year Treasury Yield (Source: TradingView)

Stretched positioning

The recent rally has pushed money managers closer to over-exposure. The NAAIM (National Association of Active Investment Managers) represents the average exposure to US equity markets reported by its members. There isn't an Australian equivalent but it provides a indicator of risk/reward and fund manager exposure.

Source: NAAIM

So what happens when you combine the above and stretched positioning? It results in large selling flows which can quickly create large spikes in volatility.

S&P 500 VIX (Source: TradingView)

Looking ahead

Is the ASX 200 oversold? I mean sure – the Index is down 3.0% in the last four sessions. Such a decline over a short period calls for an oversold bounce. But then you look over at the selloff drivers (geopolitical tensions, sticky inflation and rising yields) and where we've come from (still up 12% since late October). Perhaps the path of least resistance calls for more choppy and volatile price action as we head into May.