News Flash: China is Volatile
Market analysts constantly seek to explain cause and effect. We observe the effect (the markets go up or down) and then try to discern the cause. Sometimes the answer is obvious, sometimes not. The reality is that markets move for a variety of reasons. Benchmark indexes are composed of specific stocks, each of which presents its own case to buy or sell. This week, with the S&P 500 back below 1000 and shedding momentum quickly, the conclusion has been to “sell” more often than not. The Dow took 16 years to stay above the 1000 mark after crossing it for the first time. If the S&P 500 does the same, then we only have five more years to wait.
While stocks were already in retreat, the decline accelerated on Tuesday. Why? We can point to all kinds of data, but our guess is that the market simply fell from its own weight. The impressive summer rally unfolded quickly with little time for consolidation. Maybe the time is now. The benchmarks and most sectors remain in solid intermediate-term uptrends despite recent losses. We would expect a bounce fairly soon if the bulls are to remain in charge.
Economic indicators are a mixed bag. Yesterday’s Institute for Supply Management report suggested that industrial activity has rebounded somewhat, but is by no means robust. Pending home sales made a big monthly jump, which is not especially surprising since we are in a seasonally strong period. This morning’s ADP jobs report for August showed a bigger decline than expected. On Friday the Labor Department will issue its own report which is projected to push the unemployment rate back up to 9.5%. We’ve heard anecdotal reports of an improved job market, but plenty of people are still looking for work. Few intend to increase their discretionary spending in the foreseeable future.
Treasury yields continue to trend lower, with the ten-year rate dropping below 3.3% today. Minutes from the August 11-12 Federal Reserve meeting revealed that officials are still concerned about the economy and foresee a slow recovery. This is, of course, the same Fed that did not notice a housing bubble, mortgage market collapse and impending recession, so why we should pay any attention to their forecasts is unclear. The important part is that monetary policy seems unlikely to tighten for now, and that the Treasury is still finding buyers for all the debt it wishes to sell. Calling this a “soft landing” is probably wrong, but it may be the best we can expect.
All sectors declined in the last week. Unless a very strong rally develops soon, we expect to see momentum deteriorate further. Financials remained on top of our rankings, although the sector suffered a tremendous one-day plunge yesterday, with SPDR Financials (XLF) dropping -5.4%. This seems like a huge amount but consider recent history: XLF had an even worse day as recently as June and saw nearly three dozen even bigger one-day drops in the last year. In second place there is a virtual tie between Materials, Technology, Consumer Discretionary, and Industrials. Technology has been holding up better than the others and has a good shot at reclaiming the top spot again soon. Crude oil prices back below $70 have pushed the Energy sector to near the bottom of the rankings. Telecom is still in last place.
Relative Style rankings were mostly unchanged as all categories underwent a setback this past week. Growth has generally been ahead of Value for the last three years. From a longer-term viewpoint this trend still continues, but as we have noted in recent weeks the intermediate-term trend has shifted to favor Value over Growth. The Large Cap categories may improve somewhat, at least on a relative basis, if a larger correction unfolds in the near future.
Chinese stocks are once again earning their reputation for volatility. A -5.8% drop back on August 17 and another -6.7% fall two days ago have contributed to the overall -24% decline for the Shanghai Composite Index since early August. This moves the Shanghai market to “bear market” territory and pushes China down to the bottom of our Global rankings. The gap between China and other regions is considerable, and we won’t be surprised to see the trend turn negative soon. Elsewhere in Asia, Japan has held up better than most in the last week. Big political changes may influence Japanese stocks over the next few months. Pacific Ex-Japan and the E.U. are still first and second on the list. Latin America took a big drop as commodity prices weakened.
The charts above depict both the relative strength and absolute strength of various market sectors, styles, and geographic locations on an intermediate-term basis. Each grouping is sorted (top to bottom) by relative strength. The magnitude of the displayed RSM value is a measure of absolute strength, which is our proprietary method of measuring and reporting the intermediate-term strength as an annualized value.
“It is important to realize that volatility is still with us and will be with us for a while.”
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