Just when it seemed U.S. stocks had overcome recession and trade angst, bears reclaimed the upper hand thanks to a new worry: rising odds that Donald Trump will face impeachment.
No one's suggesting that the threat of removing Mr. Trump from office alone was enough to send equities to the biggest loss in a month and drive a rush into haven assets. The president also ratcheted up trade tension Tuesday with China and targeted big tech with antitrust warnings, while data showed signs of trouble among American consumers. But odds for impeachment at PredictIt.com hit 65% at one point, spooking investors attuned to the effects of political turmoil on financial markets.
"It's just another arrow into the mix right now," said Stephen Carl, a trader at Williams Capital Group. "The market hasn't been moving forward with really any conviction," Mr. Carl said, but "now we're dealing with a bunch of geopolitical situations and uncertainties."
Anyone unconvinced that impeachment added to Tuesday's misery need only check the S&P 500's intraday chart. The biggest decline came when House Speaker Nancy Pelosi said she'd speak after meeting with committee heads clamoring for action against Mr. Trump. Stocks bounced off their lows when Mr. Trump said he'd release a transcript of the call at the center of the Ukraine controversy, only to turn lower when Ms. Pelosi said she'd open a formal impeachment inquiry. Futures pointed to more declines at Wednesday's open.
The headlines "are contributing to modest weakness in risk markets by mining into a new shaft of uncertainty," said Shahab Jalinoos, global head of foreign-exchange trading strategy at Credit Suisse. "Markets are pricing in, as of now, a marginal amount of extra risk premium."
Investors flocked to havens such as bonds and gold. Yields on 10-year Treasuries sank 9 basis points, the most since mid-August when the bond market surged on recession fears. Gold extended its longest rally in three months. The Cboe Volatility index jumped above 17 for the first time in nearly 20 days. The dollar tumbled the most in three weeks.
"Impeachment proceedings would likely add to uncertainty within the U.S. economy, which is typically a negative development for the currency," said Brendan McKenna, a foreign-exchange strategist at Wells Fargo Securities in New York. "It could weigh on the dollar going forward."
For stocks, the sell-off ended three weeks of torpor that saw the S&P 500 sleepwalk back toward a record. After enduring two routs of at least 2% and six 1% rallies during the August tumult, wild swings had become scarce: Before Tuesday the S&P 500 went 12 days without a move of 0.75%. Last week, realized 10-day volatility hit its lowest level in a year.
There's precedent for impeachment to rattle stocks. When the House voted to introduce proceedings against Bill Clinton on Oct. 8, 1998, the S&P 500 fell to its lowest level in nine months. The knee-jerk reaction proved a good buying opportunity: From session lows, the S&P 500 would rise 33% by year-end. The reasons for the rally were many, though: It came on the heels of the implosion of Long Term Capital Management, lingering stress in emerging economies from the Asian currency crisis, and a Federal Reserve that cut rates 75 basis points in less than two months.
Events Tuesday in Washington weren't the only threat to risk assets. Cracks in consumer confidence, the bulwark of the economy, became apparent after a U.S. gauge posted its biggest drop since the start of the year as expectations for the economy and jobs market deteriorated. The drop poses a risk to household spending that is underpinning growth.
"It's the consumer that's holding the economy on his or her back," said Chris Zaccarelli, chief investment officer for Independent Advisor Alliance. But, "everything seems to be slow around the edges."
In a speech at the United Nations, Mr. Trump accused China of currency manipulation, theft of intellectual property, and dumping, sending anxiety swirling that the two nations are still far from reaching a trade deal. Semiconductors, a segment particularly sensitive to trade tensions, led losses.
"The president is taking a hard line against China," said Tom Essaye, a former Merrill Lynch trader who founded "The Sevens Report" newsletter. It "is a reminder to the market that while there can be positive movement on the edges, I think we are a long way from a trade deal."
But a closer look shows there's more to the story than trade. China-centric U.S. stocks are underperforming the S&P 500 by less than 40 basis points. That group has tended to lag by at least twice as much at times when trade fears are at the epicenter of a market retreat.
"This equity decline is less about President Trump's hawkish speech, and more about rising impeachment risks," said Naufal Sanaullah, chief macro strategist at EIA All Weather Alpha Partners. "We expect an impeachment headline to be bearish to the market initially, but ultimately will diminish President Trump's focus and hawkishness on trade policy, and for that narrative to start to bleed into U.S. vs. China relative asset performance, as well as lower dollar."