To The Moon

Note: the ROOF highlights will be on leave after this week, returning in January.

Insights from last week's changes in investor sentiment:

Investor sentiment closed last week on a downbeat note: bearish in seven of the markets we track (see table), negative in two — Australia and the UK — and neutral in just one, China. This gloomy outlook stands in stark contrast to the continued rally in equities, fueled by hopes of persistently lower U.S. interest rates, aggressive AI-driven growth (with little regard for debt), and the ongoing pause in the U.S.–China trade war. Behind the optimism, investors sense trouble ahead: potential military conflicts at home (cities) and abroad (Venezuela), questions over Fed independence, inflation risks, and a looming AI bubble. And yes — winter is coming.

2025 Review: For global investors, 2025 was a crash course in navigating the Trump 2.0 administration. The masterclass in handling Trump was taught by Putin, Xi, Netanyahu, and Modi—leaders who repeatedly secured everything they wanted from him, sometimes without even asking (looking at you, Netanyahu).

The U.S.–China trade deal feels eerily familiar. In the late 1970s, after a disastrous harvest, Russia lacked enough grain to feed its population and produce vodka. Jimmy Carter struck a deal with Brezhnev: in exchange for tons of grain and a touch of technology, Russia allowed many of its “refuseniks” to emigrate to the U.S. Fast forward to today—the Trump deal looks like a Carter deal in reverse. In exchange for tons of soybeans and a sprinkling of semiconductors, China will allow rare-earth magnets to leave for the U.S. Notably, Carter reversed course barely a year later with the 1979 grain embargo after Russia invaded Afghanistan. That same year, Carter—pursuing his Nobel Peace Prize—brokered a land-for-peace deal, forcing Israel to return the Sinai Peninsula to Egypt. Not a comforting precedent for Zelensky.

Markets in 2025 were dominated by the AI theme—a driver of performance, concentration risk, and a mountain of high-yield debt. Investors’ initial struggle to rationalize lofty AI valuations and not understanding why - it's something like exuberance the not understanding why - gave way to fear of missing out, and understanding perfectly well why.

Investor sentiment mirrored this volatility: a descent into bearish territory in Q4 echoed the drop in Q1, bottoming out on April 4—Liberation Day. War fears replaced trade-war anxiety, with concerns about conflicts both domestic and abroad. US Inflation and stagflation fears didn’t materialize, largely because 88% of the U.S. supply chain for CPI goods runs through Canada and Mexico under the USMCA treaty—currently tariff-exempt. But this treaty expires in July 2026, and Trump has hinted at amendments or letting it lapse. That’s a 2026 problem. This will be a 2026 concern for investors.

2026 Prediction: 2025 was the dress rehearsal; 2026 is the main act. Geopolitical risk and trade tensions will dominate. Trump’s new national security strategy makes for grim reading: not once is Russia mentioned as being a threat to the US. The document confirms the shift from a bipolar world (U.S. vs. Russia) to a multipolar one (West vs. East + Global South), with the U.S. and China as central antagonists. Europe must “go MAGA” or risk irrelevance as a mere trade partner and U.S. vassal. Africa is reduced to a resource provider.

The document rightly identifies the first island chain as the new Berlin Wall in this multipolar Cold War, and Taiwan—specifically Hsinchu Science Park, home to TSMC - as the new Checkpoint Charlie. But it wrongly assumes the status quo can maintain peace. It’s a ticking time bomb. The nuclear arms race for deterrence is back on. Welcome to MAD 2.0.

The Trump amendment to the Monroe Doctrine takes U.S. influence in Latin America from covert meddling to overt coercion: “Do what we want, or else.” as Maduro in Venezuela is about to find out.

Domestically, three Supreme Court decisions (Liberation Day tariffs, Lisa Cook, and Section 2 of the Voting Rights Act) will deepen divisions ahead of the midterms. Fiscal constraints will steer monetary policy toward further rate cuts and a sliding USD. Sharply lower rates may keep the AI debt bubble from bursting by holding Private Credit valuations irrationally inflated, but higher long-term rates and a steeper curve will weigh on growth and affordability.

Investor Action Plan: Investors must urgently model geopolitical risk scenarios:

• Ask: “If this happens—where is our portfolio? If that happens—where is our portfolio?”

• Accept: Outcomes are unpredictable; uncertainty and inaction is the risk.

• Act:

1. Model best- and worst-case scenarios.

2. Use expected shortfall from stress tests to build optimal portfolios for each case.

3. Measure how far your current portfolio is from each “safe” optimal portfolio—both in terms of active risk (the potential underperformance relative to the benchmark and peers), and turnover (the transaction cost required to realign if suddenly necessary).

4. Update probabilities and rebalance to stay within a safe distance on a probability-weighted basis.

Example: If the U.S. launches airstrikes in Venezuela, oil prices will spike - history says so. Venezuela holds the world’s largest proven reserves (~303 billion barrels). Regime change in Venezuela is about US energy security, not drugs. A US bombing campaign on an oil producer has a precedent: the First Gulf War. Oil jumped from $17/bbl. (June–July 1990) to $46/bbl. by mid-October, then fell back near $20 after Kuwait’s liberation in early 1991. Model a 50-100% oil price shock and use the post Ukraine invasion period to calibrate your correlation as this aligns with the fear of inflationary impact from rising oil prices that we saw in 2022. If this happens - where is your portfolio? How far from the ‘safe’ portfolio is it?

As always, the Investment Decision Research team at SimCorp/Axioma is ready to support you with any modeling needs. Our upcoming AI Copilot agent, launching in the Axioma Risk platform in Q1 next year, arrives at a perfect time. It’s set to be a true game changer - dramatically improving stress-testing productivity and making the process easier than ever.

Thank you for following the ROOF Highlights throughout 2025. We’ll be back in January 2026. In the meantime, I’d love to hear your feedback on this report—whether it’s about format, content, or style. Please feel free to reach out to me directly at Olivier.dassier@simcorp.com. Suggestions are always welcome. Until then, thank you for reading and happy holidays.

Potential triggers for sentiment-driven market moves this week[1]

• US: FOMC meeting (-25bps @87% Prob.), backlog of key US economic data.

• Europe: UK monthly GDP and trade figures. Industrial production data for UK, Germany and Italy. Speech by ECB president Lagarde.

• APAC: China CPI and PPI data. Japan final Q3 GDP figures (-0.6% revised down), PPI, and business sentiment indicators.

• Global: Reactions to the newly released National Security Policy of the US with particular attention to the implementation of the new Trump amendment to the Monroe Doctrine (looking at you, Maduro).

[1] If sentiment is bearish/bullish, a negative/positive surprise on these data releases could trigger an overreaction.

Note: green background = bullish, red background = bearish

Changes to investor sentiment over the past 180 days for the ten 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 ‘emotionally’ 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.