Below Deck

Below deck.  Stocks were hit hard yesterday after traders digested economic news over the weekend and Chinese economic numbers were worse than expected.  A regional Fed report showed manufacturing conditions in the region deteriorated by a record amount confounding fear in yesterday’s trade.


N O T E W O R T H Y – Special Edition


What happened yesterday: 

Markets experienced an epic drop in yesterday’s session.  Stocks opened on the downside after futures were limit down Sunday night.  The selling started almost immediately following an emergency Fed rate cut and announcement of bond buying. Investors spent the weekend reading financial news, consulting their market gurus, and trudging through out-of-stock grocery stores and decided that the situation may be worse than originally thought.  The Empire Manufacturing Survey came out indicating that the manufacturing conditions in the New York Fed region had fallen by a record amount, adding to the risk-off mood.  At the end of the session, the President held a news conference in which he stated that the effects of the virus could last until August, further fueling the selling.  Then there was margin call selling – lots of it – which intensified into the bell causing stocks to close at session lows.


Snapshot Q&A:


Q: What is the Federal Reserve doing to help stocks?  A: The Fed is not authorized to get involved in the stock market, but their actions have effects on equities in many ways.  The most obvious way is on sentiment.  Leading up to this last rout in the markets, when the Fed announced a rate cut it was usually met with a rally in stocks as investors cheered the federal support.  But there are some very tangible positive effects.  For one thing it lowers borrowing costs for companies, which is welcome in a period in which we expect revenues to be under pressure. Finally, the Fed bond buying and massive repo transactions provide banks with lots of cheap and easy cash so that they can lend it to corporate as well at retail clients.


Q: What is up with the banking sector?  A: Banks primarily make money by borrowing funds and then lending them out at higher rates.  The difference between their borrowing costs and their lending cost is what is referred to as their net interest margin.  When rates are going down fast, as they have been starting last year, banks are expected to make less money.  As the Fed began to further cut rates at the beginning of the month, bank stocks began to sell off at an increasing rate due to expectations of lower earnings.


Q:  Is this another financial crisis in the making? A: NO!  Banks, though their stocks have suffered, are in solid shape.  Many investors who lived through the financial crisis have been trying to draw parallels between this market selloff and the one that happened in 2008.  The banking system during the financial crisis had liquidity problems and suffered from inefficiencies which were exploited by sub-prime mortgage lending.  Today, banks are well capitalized and the Fed has been very aggressive to make sure that they stay that way.  Offering up trillions of dollars in the repo market, extending lending window loan terms, and lowering reserve requirements to zero not only provides them with ample cheap money to lend out, but provides lenders with confidence.  This is not a financial crisis by any means.


Q: Why are mortgage rates not 0%?  A: In fact mortgage rates were going up slightly in the past few weeks, confounding borrowers… and even lenders. Rates were going up for two primary reasons.  The first is due to increased demand as many homeowners rushed in to refinance providing lenders an opportunity to charge more on their loans.  Don’t get mad, it’s just capitalism at work.  Mortgages are tied to rates in general, though they “conveniently” lag in downward moves.  The spread between market interest rates and mortgages has been increasing due to this and the Fed has taken notice.  Their announcement this weekend to purchase an additional $200 billion in mortgage backed securities is intended to push mortgage rates closer in line with market interest rates.


Q: Can markets simply shut down?  A: Recently, you have heard unfamiliar terms like “limit down”, “circuit breakers”, and even, crazy as it sounds, “limit up”.  Circuit breakers are designed to cause trading to halt in order to give traders a chance to breathe and think about what is happening.  Despite what many believe, the stock market is highly liquid and is engineered to make big swings while continuing to provide liquidity and circuit breakers are in place for consumer emotion rather than market liquidity.  There are three levels of circuit breakers.  The first (level 1) occurs if markets drop by -7% from the previous close of the S&P500, causing a fifteen minute pause.  A second 15 minute pause (level 2) goes into effect if the index is down by -13%.  A level 3 circuit breaker occurs if the market falls by -20% causing a suspension of trading for the session.  The New York Stock Exchange rarely closes, but it has on a number of occasions in history.  You may remember that the NYSE shut down in the wake of Superstorm Sandy as well as after the 9/11 attacks.  Also notable were closures after the JFK assassination, the landing of Apollo 11 on the moon, and a four month closure when World War I broke out.  Though there have been increasing calls for stock markets to take a break, NYSE officials have been downplaying the likelihood.


This Special Edition format will continue as markets continue to gyrate in response to the Coronavirus outbreak in order to keep you as informed as possible. If you have any other questions, please reach out to us.  We are here for you.





– Retail Sales are expected to have grown by +0.2% month over month compared to last month’s growth of +0.3%.

– Industrial Production may have grown by +0.4% month over month compared to a -0.3% decline in the prior report.

– JOTS Job Openings are expected to have declined to 6.4 million from 6.42 million in the prior month.

– NAHB Housing Market Index is expected to have gone from 74 to 73.

– CAVEAT – Many of these numbers reflect the state of the economy prior to all of the restrictive measures that are starting to take effect.  As a result they may not provide an accurate picture of today.  More importantly, we will start to see some broader misses in the weeks ahead.  Don’t worry, I will be here, as always, to help you make some sense of them.

daily chartbook 2020-03-17

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