Here’s the big question for investors: Is this just a correction—the usual and useful 10% or so drop that refreshes a rally for the next leg up—or something worse?
Today, pending a big rally as we head into the market close, the Standard & Poor’s 500 Index took out support at its 200-day moving average near 1100. The next stop for this market is the February 5 intraday low at 1045. That’s another 4% drop from here.
As long as the market holds that level this is just a correction. Painful. Costly. But contained and absolutely normal after a big stock market rally.
And if the S&P 500 goes below that level? Then we’re in uncharted territory. The market drop would be more than a correction, clearly. But what exactly would it be?
Could be a retracement of the normal one-third to 50% of the previous rally, the one that started on March 9, 2009 when the S&P 500 was at 677. That’s about 550 points below the market’s April 2010 top at 1209. A 50% retracement would be 1034 on the S&P. That’s not too much below the February 2010 low.
Could be something worse. The rally that began in March 2009 could turn out to be just a relief rally and the market could resume the bear trend that it abandoned, temporarily it would turn out, in March 2009. Happened during the Great Depression. Could happen again.
It’s hard for me to see that return to the bear market scenario happening, however. For stocks to resume their pre-March 2009 bear trend we’d have to see major economic setbacks in global growth. Economic growth in the United States would have to not just slow while staying positive, but the economy would have to slip back into recession. The economies of emerging countries would have to crash as well with growth in China falling to 5% and growth in countries such as Brazil and India slipping toward negative territory.
Could happen. To me it seems extremely unlikely on the fundamentals I see in the global economy. (This isn’t to say that I think we’re in a long-term secular bull market. I think the huge debt in the developed world, the need to raise interest rates and taxes, and the demographic bulge as the world ages argue that the stock markets of the developed world are in for a long-term secular bear market decline. I just don’t see a crash back to 677 in the course of a few months as part of that pattern. I think we’ll cook but we’ll cook slowly.)
It’s almost as hard for me to see any reason for stocks to stop at 1045. Almost but not quite.
I certainly don’t see any real end in sight to the budget deficits in Greece, Spain, and France and dangers they pose to the euro and to economic growth in the Euro Zone. This is going to take months to work out—if it can be worked out. (For more on why the euro crisis is so hard to fix see my post https://jubakpicks.com/2010/05/19/germany-makes-the-euro-crisis-worse/ ) I think the U.S. economic recovery is fragile—especially with slower economic growth from Europe. (See my recent post on good news that the stock market is ignoring right now https://jubakpicks.com/2010/05/19/earnings-are-solid-and-the-economys-on-track-even-if-ghe-u-s-stock-market-doesnt-care-right-now/ .) Worry about the economy slipping back into recession isn’t going away. And the central banks of the developing world will be raising interest rates for months. ( For more on when that might end, in Brazil at least, see my post https://jubakpicks.com/2010/05/20/brazils-financial-markets-already-start-to-anticipate-early-end-to-interest-rate-increases-thanks-to-euro-crisis/ ) That will certainly slow growth in those developing economies and it does raise the real possibility that some bank will overshoot and actually take a much bigger bite out of growth than intended.
So no, the worries aren’t going to vanish anytime soon.
But there’s a difference between worry and fear. Stocks can go up when investors are worried as they climb the proverbial wall of worry. Fear leads to panic selling. To dumping every stock in your portfolio in favor of safe investments such as the yen or Treasuries. Fear is what the market is struggling against—and losing to–now.
And I can see reasons that fear might be peaking.
The Senate just voted 60-40 to close debate on the financial reform bill. That legislation now goes to the floor for a vote. Why is this likely to reduce stock market fear? Because the longer the bill was open for amendments, the greater the chance that something really damaging to banks and their bottom lines would get into the final bill. (Yes, I know that Senators can still offer amendments but I think they’re less likely to make it into the bill after a successful cloture vote.) Bankers were shaking in their shoes, for example, when the Senate voted to reinstitute Glass-Steagall. That Depression-era reform prevented commercial banks from owning investment banks. Re-instituting that restriction would have forced the breakup of virtually big bank in the United States. The countries big banks can live with the current bill—or whatever emerges from the Senate-House conference, although they might not be happy about it. (Many of us, on the other hand, would be happier with some of these tougher amendments, I’d guess.)
This will start to take some of the fear out of financial stocks.
The euro actually rallied in late market action today going to $1.25306 from $1.2295. The rally was based on speculation that the European Central Bank would intervene to support the euro in the currency markets.
I think that speculation is wildly optimistic. Even if the European Central Bank does intervene its actions will be half-hearted. This bank just doesn’t like to meddle in the markets by buying euros or the debt of Euro Zone governments. This isn’t the Bank of Japan that stages currency interventions more like the Thirty Years War than the European Central Banks hit and run skirmishes.
But the rally in the euro today is still important. It reminded shorts, painfully, that betting against the euro isn’t a one-way trade. It suggested that the euro is capable of behaving like a normal currency that declines gradually while staging the occasional rally. I don’t think anyone was convinced by today’s action that the currency isn’t still headed down but the fear of a panicky plunge has dissipated just a bit.
Is any of this really good news? Not really. But what I’m interested in finding is the moment when the momentum in the bad news shifts, that moment when today’s bad news isn’t as grim and scary as yesterday’s bad news.
What you need to feed a panic is a sense that everything is getting worse at a faster and faster pace and if you don’t run for the hills immediately you’ll be road kill.
I think we’re moving toward the point where things are just bad instead of terrifying worse every moment.
How’s that for being positive?
Whoever mentioned Roubini: he was predicting “straight down in new year” at the end of 2009.
Ed and the other deflation folks: It’s really important when talking about inflation/deflation to specify your time frame. Yes, commodity prices are falling now but that comes after huge and unsustainable run ups inb price. During the price increases, there was always an open question about how much China was buying for actual use and how much Chinese companies were stock piling. I think we’re now looking at a reverse of that question: how much of the decline in buying and prices is a result of China drawing down stock piles and how much is actually falling demand. Note though that this is all about short-term price declines. The kind of deflation that Krugman is worried about requires a long period of falling prices so that deflationary expectations get built into behavior. Deflation is so devastating because once you believe that things will always be cheaper tomorrow, then you have a bias toward putting off sallo buying in favor of saving. Japan is the example for our time. If you’re arguing for deflation, I think you’ve got to convince me that we’re looking at years of falling prices and not just a few months. And to get to years of falling prices I think you have to posit something really, really dire in the developing world. A collapse in China for example.
EdMcGon
am i stupid or what…i bought A123 yesterday on a dip. I,m hopelessly optimistic
Canadian Banks Briefing (for jamba and Ed McG):
This could be an article in itself, but there are basically a handful of Canadian Banks. The big 4 have the same symbol on the Toronto or New York stock exchanges:
TD: Toronto Dominion Bank
RY: Royal Bank of Canada
BNS: Bank of Nova Scotia
BMO: Bank of Montreal
Their share prices all got whacked in late 2008, along with everything else financial, and became “accidental high-yielders”, as Cramer would say. They all rose after that to what is generally considered on the street to be fair value. They have all recently pulled back a teeny bit in this latest market freakout.
Since late 2008, they all posted good earnings increases for most quarters, with the odd writedown due to late 2008 exposure. They all have many branches nationwide (in Canada), and each one seems to have a focus when expanding outside of Canada. Here are their latest dividend yields and secondary focuses:
TD: 3.3, USA
RY: 3.4, USA
BNS: 3.7, Latin America and Caribbean
BMO: 4.7, ?
Other notes:
– They are generally pretty conservative in terms of capital ratios
– They could probably increase dividends, but are currently reluctant to do so until the results are in for what the world is going to do about capital ratios, bank taxes, etc.
– Cramer likes BMO
– I owned all 4 after the crash of late 2008 and sold them after their share prices climbed. Maybe should have kept them for long-term.
– Possible slight real estate bubble currently going on in Canda in a few cities (Vancouver, Toronto, Calgary, etc) but not too scary at the moment.
Hope this helps.
@EdMcGon
“For those of you willing to think outside the box, there will be opportunities. Learn your market options. Learn ETF’s. Learn commodities. Learn shorting. Do NOT just restrict yourself to long positions on company equities.”
Ed – All I do is go long common stock. What books do you recommend for learning about options, ETFs, commodities and shorting? Any online message boards?
I have read the following books:
“The Intelligent Investor” (Graham)
“Learn to Earn” (Lynch)
“One up on Wall Street” (Lynch)
I have the following on my to-do list:
“Common stocks, uncommon profits” (Fisher)
“Winning on Wall Street” (Zweig)
“Securities Analysis” (Graham/Dodd)
Any recommendations would be appreciated.
Just keep buying a little bit all the way down. When everything gets to .01, buy again, and when it jumps to .02…hey, you’ve doubled your money!
Folks:
I am not buying. I just try to get my buy list ready. I said few days ago that I need to the market stablize before any buying.
Over the past few months, I have cashed in probably more than 90% of my winners. What left are all high dividend paying stocks. I am holding on, because I don’t want to sell at the bottom. I learned a big lessen in 09 on selling at the bottom. It’s hard to recover the losses once you sell at the bottom.
About deflation:
“1. A falling euro means a rising dollar. (So far so good, if we are talking about the euro/dollar exchange rate then this is a tautology.)
2. A rising dollar will, ceteris paribus, tend to lower commodity prices. (Again, I agree.)
But here’s what people forget. That same argument implies that a falling euro should raise the euro price of oil. But in fact, the euro price of oil is also falling sharply. So what is going on?”
For the answer, please read:
http://www.themoneyillusion.com/?p=5083
Ed,
I was looking at a long term chart (say 60 years) of the market. Not quite sure how to feel. It goes up, of course, (mountainous, of course) and down, revealing various points in history where corrections, calamities of all types and the normal “ups and downs” of the market. It’s true that psycology is a huge factor in sentiment…people of past eras felt some of the same feelings we experience now. Observations: 1. the numbers are so much bigger today (trillion vs. billion vs. million). 2. The cancerous effects are more pronounced, enhanced by the speed of communication and technology. Merkel sneezes one second…the market reacts the next second. 3. The market obviously has survived over the years. 20 years from now this period will be but a “hiccup” in the chart (hopefuly).
Now, as I look at stock futures at 8 AM, the futures have increased their slide. This might be a money making day for some after all!
bobisgreen,
I’ve been watching the business news this morning (flipping between Bloomberg and CNBC). One huge surprise to me was the U.S. stock futures going from green to red shortly before the Germans approved the bailout.
I was fully prepared to eat a loss today with the options expiration. But this has me wondering if there is something in that German bailout bill that the markets don’t like? Even after the announcement, all the European markets are down, with the German DAX taking the biggest hit (although that at least makes sense).
Ed et al,
Based on reading the news about the German Parliment, they “cleared the puck”. For all you non-sports types, pressure got to be too hot to handle and they whacked the puck to the other end of the ice, putting off momentarily a goal by the other team.
We may get a bit ( a bit) of a bounce today. Ed’s right (probably) the bear never left the stage…just off to the side…clearing his throat…or is it a boxing ring with some tired old bull, tired of pitching his case for a US recovery!
Time to learn some new tricks, tricks I thought I’d never have to employ.
Jim – your quarterly performance hasn’t been updated since Q3 2009. Will you add Q4 2009 and Q1 2010 with commentary any time soon? Thanks!
I calculate a 50% retracement at about 943 – and it looks like around 950 that is a good support area. That’s what I’m looking at in the near term.
To all of you,
Jim said move into a cash position. I’m going to take that one step further: DO NOT BUY ANYTHING NOW!
Don’t get cute and think you are buying a bargain. All you’re doing now is catching a falling blade. Even if the market pops a little today, don’t believe it. All it takes is for Angela Merkel to announce she hates Greek food for the market to drop another 5%.
If you do decide to ride out the storm with stocks in your portfolio, make sure you have a strong cash position (50% or more). Once we get out of this, you will need cash to dollar cost your existing holdings to more reasonable evaluations.
Don’t assume the market (or your holdings) will return to it’s previous highs immediately, or even within the next year. We are in a secular bear market folks.
Now for the bright side: There could be a cyclical bull market again in the near future. It could happen as soon as August. Then again, it might not happen until next year.
For those of you willing to think outside the box, there will be opportunities. Learn your market options. Learn ETF’s. Learn commodities. Learn shorting. Do NOT just restrict yourself to long positions on company equities.
Jim Rogers once said something to the effect that when he started investing, he wasn’t comfortable with equities. He got into commodities and made his fortune there. Commodities made sense to him.
Find your investing niche. Don’t just think that you have to buy company stocks. There are many ways to make money in the investing world. LEARN THEM!
L943973,
And people call me bearish.
USDAportfolio,
CPI numbers were only positive when food and energy were excluded.
You need to ask: With all the money our government has pumped into the economy, why is inflation still near 0?
While I think there is the possibility of inflation, it’s on the horizon. The economic reality now is deflation.
But here is the bearish kicker: As soon as our economy does start to turn around, inflation will pop up and kick it in the teeth.
java12jack,
Right now, there is no bottom target. As both Jim Cramer and Jim Jubak have pointed out, the market is ignoring earnings at the moment and trashing everything. Don’t look for the bottom yet.
ogowan,
You’ve got the right attitude! 🙂
It looks like the bottom may come late tomorrow some bargains are appearing, hold tight , turbulence forecast… BG, SQM,ABB any comments
As far as deflation goes, the prospects of long-term deflation are very low. A healthy market always sees price drops in some asset classes. If you want to call that “deflation”, fine. However, I call it “price adjustment”. Real estate price declines, for example, reflected an adjustment from an irrational exuberance to (or in some cases now, below) the fair value of that asset. If that is deflation, it’s only deflation of a bubble. Similarly, a rising dollar has caused declines in energy prices. Real estate and energy prices in the CPI combine to make the number look lower than it otherwise would look. And note that the CPI numbers have been positive. The link provided above by bsdgv shows a decline in inflation – disinflation – not deflation.
Long term, lower real estate prices and lower energy prices will act as a powerful stimulus. That, coupled with historically low interest rates, growth in emerging economies, and increased CAPEX spending and M&A activity by companies sitting on reserves of cash will fuel economic growth worldwide.
Along with that growth, the most likely outcome is inflation.
For more on inflation, see “The Jubak Picks” by Jim Jubak, chapter 6.
Hi Mr. Jubak,
thank you for sharing your insights with us, particularly with the posting on the BASEL III ruling on Tier I capitals. I was wondering if you have read this book: This Time Is Different: Eight Centuries of Financial Folly by Carmen Reinhart and Kenneth Rogoff. Is it a good book?
Thanks,
Gracie