Two Ways To Improve The Mood
There can be no denying that we've got a nasty market on our hands. A market where the venerable Dow Jones Industrial Average can be up 300 points one moment and down 600 the next. If that type of intraday volatility doesn't get your attention, nothing will.
As I've opined a time or twenty since 2011, I believe the degree of intraday movement in the market is often driven, in large part, by the machines. In short, traders have learned over the years that once the sell algos get rolling, it is best to simply stand aside until the "whoosh" subsides or reverses course. The key point here is that, in my humble opinion, a fair amount of the market's intraday movements can be viewed as being artificial - especially when things get nutty.
This is not to say that the current decline is unwarranted. At this stage of the game, after enduring more than four weeks of selling action, the reasons for the decline appear to be all too real. Cutting to the chase, stocks are worried about the impact of the trade war (which we hearing about daily from corporate America's earnings reports), a more aggressive Fed (suddenly 3-4 more rate hikes looks excessive), and the fact that the global economy is slowing (take a look at global PMI/ISM data, the recent Richmond Fed Manufacturing Index, and then the action in the autos, industrials, homebuilders, etc.). Now toss in a little inflation and the word "stagflation" is even starting to make the rounds here.
The bottom line is pretty straightforward. Stocks are now "pricing in" slower growth ahead and potential missteps by both the White House (the trade war) and the Fed (the plan to continue hiking rates). Both of which could easily harm the economy. 'Nuf said.
It's a Correction
So far at least, this has meant a 10% haircut to the price of the S&P 500, which, as the news media reminds us hourly, qualifies as "correction territory." And based on valuations, many argue that there could be more "price discovery" to the downside ahead.
But before you run out and sell everything on the idea that the country is doomed, let's remember that these types of declines happen... wait for it... ALL THE TIME! If memory serves, the stock market has experienced 10% corrections at least once a year, on average. The problem investors are having here is that before 2018, it had been a VERY long time since investors had been forced to deal with a couple of these adventures in selling in the same year. It is also important to remember that while some of these corrections do indeed lead to further damage and more pain, most do not.
Currently traders are expecting (and pricing in) the worst. Yet, I believe there are two scenarios that could turn this thing around - in a big hurry.
Wanted: Data Dependence
The first is the Fed bringing back the phrase "data dependent." Currently, the thinking is that Powell & Co. are going to be stubborn about the path to further rate hikes. And with the economy slowing a bit, the fear is that the Fed will "overshoot" and become the cause of the next recession. It's happened before.
However, should the Fed start to recognize some of the weakness that is occurring and/or the impact the trade war is starting to have, Powell's band of central bankers could simply decide to take a "wait and see" approach to the path of rates in 2019. And the most likely phrase the Fed could use to signal such a shift is for the FOMC to become more "data dependent."
And End In Sight?
The second thing that could put the brakes on the stock market's dance to the downside is a signal from the White House that there is an end in sight to trade war with China.
Yes, it is true that Trump's comments yesterday about more tariffs coming was the likely trigger that got the sell algos excited. But at the same time, let's recognize that the mood could change quickly - as in microsecond algo buying quickly - if investors get wind of a deal in the works.
So, the key point here is that if either the Fed or the White House were to show some signs of sensibility, investors could take solace in the idea that neither institution is bent on wrecking the economy and the market. This would likely go a long way in restoring confidence and allow buyers to get back to work in the stock market.
But unless/until the uncertainty over both/either issue is resolved or there is some clarity on a path forward on these subjects, traders may choose to continue voicing their displeasure with more sell algos.
Thought For The Day:
Poor is the pupil that does not surpass his master. -Leonardo da Vinci
Wishing you green screens and all the best for a great day,
David D. Moenning
Founder, Chief Investment Officer
Heritage Capital Research
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