Stormy Weather!

Stormy weather!  “Don’t know why there is no sun up in the sky”… declares the 1933 song and many stock investors in yesterday’s session.  The rout in equities can be attributed to a number of stimuli including weak markets in Asia, Mnuchin backing out of the big Saudi Investment conference, interest rates, the EU’s ongoing battle with Italy, and finally low investor moral.  Let’s start with investor moral.  I have been writing a lot about the silent shift of investor focus from growth to defensive while constantly referring to one of my non-traditional charts and because I think it is important, I will do here again today.  So please refer to chart 16 in my attached daily chartbook.  The chart is entitled “Growth Relative to Defensive” and it shows the performance of growth stocks versus the performance of defensive stocks.  So if growth-oriented stocks are going up faster than defensive ones, the index will go up, and vice versa.  We all know that markets are vagrant and that traders can be a fickle bunch so you would expect the index to tick up and down often, which is why I am not necessarily interested in daily moves, but rather the trends of the index.  By looking at the chart we can clearly see that from last October through June of this year the index was trending straight up, even through the pullback in February.  This reflects investors’ penchant for growth stocks over defensive.

I like to think of growth stocks as being like a market gas pedal.  When investors are excited, they press on the gas pedal, and when they are nervous they may ease up a bit.  When investors are nervous, they pump the brakes to slow down. Defensive stocks, which are ones that perform well even in tough times, are like the brakes. Defensive stocks are consumer staples, which are things that we still buy even on a stormy day. They would include household items like toilet paper and tooth paste – things produced by Proctor and Gamble (which announced earnings this morning before the bell).  The opposite of these staples would be consumer discretionary stocks.  These would include items consumers could live without when times are tough and buy a lot of when times are good.  Examples would be autos, home improvement items, Yeezy sneakers (expensive Adidas – ask your kids), and expensive coffee (consumed by you and your kids – Starbucks).  So when investors start to shift their investments into companies that do well in tough times out of the ones that will underperform, it tells us something about investors’ thoughts on what lies ahead.  Back to the chart.  You will notice that the index peaked in June and has since trended down, which indicates that investors have been favoring consumer staples companies over discretionary ones.  There is a clear shift in sentiment, so let’s take note.  OK, onto Saudi Arabia.  Saudi Arabia makes a lot of money selling oil and they spend that money on all sorts of things, the least of which are fast cars and military equipment.  More recently the kingdom has made a concerted effort to move away from Oil as a primary source of income and began an investment binge into other areas of growth, namely technology.  US technology.  So when relations strain and the US backs out of a high profile Saudi investment conference (this one has been referred to as Davos in the Desert), technology investors get nervous… and sell stocks.  The result of this and other similar factors caused equities to sell off yesterday.

The Dow Jones Industrials and the NASDAQ 100, though they had a tough day closed above their 200 day moving averages but still remain risk off.  The Russell 2000 remains in a difficult risk off position and gave up some ground in its bid to climb out of its rut. What was of most concern to many investors yesterday was the S&P500’s retreat back below its 200 day moving average.  The next few sessions will be critical for the index to get back above that mark in order to turn sentiment around and the packed earnings schedule can help – assuming the trend of good earnings continues.  Bonds started yesterday’s session with yields near recent highs which contributed to the selloff in stocks.  The good news, if you can call it that, is that bonds traded up when the stock market sold off which means that diversified investors were spared some pressure (see my note from this past Wednesday on the importance of diversificatIon).  Ten year yields traded up slightly overnight and will start today’s session at 3.18%.

This morning we will get a read on existing home sales, which are expected to have fallen by -0.9% month over month after having been unchanged in the last period.  We are also due to receive a number of earnings releases before the open, which will set the mood of the day.  All except for 2 companies that have released this morning at the time I am writing this note have beaten expectations, including Proctor and Gamble which beat estimates by 12.9% …consumer staples.  Next week, we have a number of big economic numbers that will give us a pulse on the economy including durable goods orders, more housing data, trade data, and GDP.  Each and every release next week will be carefully scrutinized for any signs of economic slowdown.  Many will be subject to interpretation, which, in this jumpy market of recent, means more volatility ahead.

daily chartbook 2018-10-19

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