Financial Review

Don’t Blink

…Stocks stage a last hour rally. Why have stocks been dropping in a strong economy? What was behind today’s rally into the close. Consumer confidence slips. Techs mixed.

Financial Review by Sinclair Noe for 12-27-2018

DOW + 260 = 23,138
SPX + 21 = 2488
NAS + 25 = 6579
RUT + 2 = 1331
10 Y – .05 = 2.74%
OIL – .93 = 45.29
GOLD + 8.90 = 1276.20


I have been out of studio for the past couple of weeks on holiday. And while I was gone, it looks like you kids just made a mess of the markets. I look around and everything has been trashed. I know you tried to clean up yesterday, but it was too little, too late.


Last Friday, the Dow closed at 22,445. This holiday shortened week saw stocks plunge on Monday in a Christmas Eve nightmare, followed by a 1,000 point Boxing Day bounce, and then down again today, the Dow industrial were down about 600 points  – at least until the final hour or so of trade. Stocks had fallen for four consecutive days through Monday, and the drop had pushed the S&P 500 to within just a few points of a bear market — defined as a 20 percent retreat from its high. Still, the S&P 500 is on pace for its worst annual performance since the financial crisis a decade ago and is only back to where it stood on Dec. 20, but still negative for the month of December. Today was another wild ride with the Dow industrials hitting an intraday low of 22,267 and then bouncing over 800 points to finish in the green.


Today’s downturn served to confirm the more dominant downtrend underway. One of the characteristics of a bear market is failed rallies. Today we saw confirmation of a dead cat bounce, or perhaps a short squeeze. Yesterday’s rally was engineered by the high-velocity algorithmic traders. The market went up too far, too fast to believe it is more than a one-day wonder. The setup was sweet: sentiment had turned overly-bearish, the major indices were extremely oversold, post-holiday volume was light. Boom, a 5% record shattering day.


But the market suffered from disappointing breadth. On the 1,000-point Dow day, there were 114 new lows on the New York Stock Exchange, and only one new high. If this were truly the end of the downturn, you would not see such a disproportionate number of new 52-week lows versus highs on the NYSE on the biggest rally of the year. Further, 84% of the stocks in the S&P 500 are still trading below their 200-day moving average. And 95% of stocks in the S&P 500 are still trading below their 50-day moving average.


Yes, stocks rallied into the close and managed to string together 2 positive sessions, and it might be the beginning of a long slog back, but today’s action seems more likely the result of algo trading or perhaps Treasury Secretary Steve Mnuchin learned the first rule of the plunge protection team is that you don’t talk about the plunge protection team.  The buying panic had the same short squeeze and pension panic reallocation fingerprints from yesterday. Looking beyond the past 2 days, the month of December is still ugly for stocks, with the Dow industrials down 2,400 points on the month; on track for their worst month since the Great Depression.


If Wall Street gets some good news, we could see a rally. We might even see a rally in the absence of bad news. Yesterday, Mastercard SpendingPulse reported retail sales over the Christmas shopping season were up this year 5.1% to more than $850 billion between December 1 and 24. It was the strongest performance in six years.


Congress is back in session and legislators are still being paid, even as many government workers have seen their paychecks vanish in the government shutdown. Don’t expect any action from the legislators. Shortly before the House came in, leaders announced no votes are expected this week and that members would be given a day’s notice if votes are scheduled. Aides in both parties say they see little reason to believe anyone is budging over the funding of Trump’s border wall, least of all the president himself. Party leaders are now gaming out how the new Democratic House will react to a shutdown affecting a quarter of the government, and there are increasing worries that the shutdown will drag on.


Compared with the last extended shutdown in 2013, this episode is remarkably low-key. The closure covers only a quarter of the government. Members of Congress are doing comparatively little messaging compared to the impasse of five years ago, when conservatives tried to defund Obamacare and eventually GOP leaders blinked. There have been almost no press conferences in recent days aimed at pinning the blame on the opposition, which could be in vain anyway since Trump said he’d be “proud” to own the shutdown (before subsequently trying to pin it on Democrats). Approximately 380,000 federal employees have been furloughed and have no guarantee the government will cover their back pay as it has after other shutdowns. Another 420,000 employees, including air traffic controllers and food safety inspectors, have been classified as essential and will eventually be paid for their work during the shutdown, but that promise of payment is not enough to put food on the table.


A Census Bureau report on new home sales was delayed because of the shutdown. Investors got some data to digest today, and it was a mixed bag.


The number of Americans applying for unemployment benefits fell slightly in the week before Christmas. Initial jobless claims, a rough way to measure layoffs, slipped to 216,000 in the seven days ended Dec. 22. As long as the labor market remains strong, the economy may be able to avoid a downturn. However, if we start to see any weakness in jobs, watch out.


The Conference Board’s consumer confidence index dropped to 128.1 this month from a revised 136.4 in November. Confidence is now at its lowest ebb since July, putting the index almost 10 points below an 18-year peak set in October. Consumer confidence doesn’t take its cues directly from what’s happening on Wall Street, but the stock market’s plunge in the past few months is likely reshaping how Americans view the economy. The present situation index, a measure of how Americans view the economy right now, slipped to 171.6 from 172.7. The bigger worry is about 2019. The future expectations index — what Americans think the economy will look like six months from now — sank to 99.1 from 112.3. That’s the lowest reading since October 2016.


The economy is doing well by most measures, but the huge drop in the U.S. stock market over the past few months has dampened some of the enthusiasm. The Federal Reserve is also raising interest rates, a process that tends to slow key segments of the economy such as housing. What’s more, Investors are worried about an ongoing U.S. trade fight with China and a slowing global economy. The latest drop in consumer confidence won’t offer any consolation.


Adding to uncertainty, Reuters reported that Trump is considering an executive order that would block US companies from using equipment from China’s Huawei Technologies and ZTE in the new year. That could stir tensions between the largest economies as they try to resolve a trade war.


The major question hovering over the stock market today: if the economy is historically strong, why are equities selling off so severely? History might provide a path. As we look at periods when the economy looked strong but the stock market dropped anyway, we can see parallels to today’s markets in the sell-offs in 1962, 1966, and 1987. Those years, stocks lost 28%, 22%, and 36% respectively from peak to trough. Admittedly, this is a small subset. Yet, following those three periods of stock-market downturns, the S&P 500 posted double-digit gains in following months.

After its June 1962 low, the S&P 500 climbed 42% to a new high in August 1963.

After its October 1966 low, the S&P 500 rallied 32% to a new high in April 1967.

After its October 1987 low, the S&P 500 soared 58% to an all-time high in July 1989.


Of course, that was then and now is now. And it is important to remember that most market downturns roughly coincide with a downturn in the broader economy. The equity markets could be telling us that the broader economy is not quite as rosy as it appears, or perhaps that there are other risk factors to consider. And as this happens, we are starting to see market disconnections. According to a note from Deutsche Bank’s chief international economist, long rates are too high or S&P 500 is too low. The two have diverged sharply since the start of this year. Something is driving equities lower, which is not impacting rates, or there is something keeping long rates high, which is not impacting equities. The disconnect appears to show that the stock market is reacting to information the Treasury market is not. This could be the result of algorithms and “momentum traders, who execute trades based on price trends, but this explanation is puzzling because Treasuries would normally be the safe parking spot for computers worried about a downturn.


A rally among high-flying technology stocks paused today, with Amazon shedding 0.63%. Facebook, Alphabet, and Netflix, meanwhile, were slightly higher.


Oil also pared gains and descended further into a bear market, down more than a third from October highs.

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