Stock markets around the globe retreated before a wave of growing concerns over China's slowing economy and rising tensions between Russia and the West over its invasion of Crimea and the upcoming referendum (vote) in Crimea. News that a six-hour talk in London between U.S. Secretary of State John Kerry and Russian Foreign Minister Sergei Lavrov failed to produce any progress on the situation didn't help matters. The U.S. indices were down about -2% for the week or more with the small cap Russell 2000 delivering the best performance, down -1.8%. European markets were down -3% or more for the week, their worst one-week performance in several months.

Crude oil futures fell -3.6% last week in spite of potential sanctions against Russia, the world's largest oil and gas exporter. Meanwhile precious metals like silver and gold were in rally mode thanks to rising geopolitical tensions. Gold hit seven-month highs above $1,380 an ounce. A falling U.S. dollar has been an additional boost for commodities. One commodity not on the rise is copper, which crashes to new four-year lows last week.

chart of the gold ETF:

chart of the copper ETN:

Ukraine-Russian Conflict

The situation with Russia, Ukraine, and the Crimea-region of Ukraine is getting worse, not better. This Sunday, March 16th, 2014, is a pivotal point in this conflict with a referendum (vote) in Crimea. The vote itself is a fraud. Crimea citizens only get two choices. They can choose to vote in favor of joining the Russian federation or they can choose to vote in favor of restoring Crimea's 1992 constitution, which makes the country autonomous, in which case the Crimea parliament would vote to join the Russian federation. There is no choice to vote no and stay with the Ukraine. Keep in mind that over 50% of the population in Crimea already considers themselves Russian.

map of the Eastern Europe:

Two weeks ago Russian President Vladmir Putin said that Russia had no plans to annex Crimea. Unfortunately actions speak louder than words. There have been several photos of Russian tanks massing on the border of Eastern Ukraine. Oleksandr Turchynov, the current acting president of Ukraine, told reporters on Thursday that Russia is gathering troops and weapons on their border and plan to invade. Ukraine's northern neighbor Estonia also warned that Russia was planning to invade Ukraine. One train of thought suggests that the eastern half of Ukraine is already pro-Russian. Putin might be planning to invade Ukraine and annex the eastern half of the country in addition to Crimea. Russia's Foreign Minster Sergei Lavrov told reports on Friday that Russia had no intentions of invading Eastern Ukraine but does anyone believe him?

map of the Russian Forces on Ukraine border:

(image from Zerohedge.com)

There is additional evidence that Russia is preparing for conflict with the West and at the very least preparing for sanctions by Europe and the United States. There were a number of headlines out on Friday focused on a record-breaking decline in U.S. treasuries held by the Federal Reserve. Last week saw $104 billion in treasures leave the Fed. That is a huge number. Prior to last week's $104 billion, the next biggest one-week decline was about $30 billion during the financial crisis in 2008. Since Russia held about $138 billion in U.S. treasuries financial analysts speculate that Russia has moved these assets (or sold some of them) in advance of any U.S. sanctions that might freeze their assets.

There are also examples of Russian oligarchs moving money out of western nations and back into Russia. Another example of money on the move was Viktor Zubkov, chairman of Russia's energy giant Gazprom, who sold his entire stake in Gazprom stock the week before Putin invaded Crimea. His timing was perfect since Gazprom stock is now down -25% in the last two weeks. The Russian stock market is getting crushed with their main stock market index down -22% since February 18th. Yields on Russian 10-year bonds are close to 10%. Normally bond yields above 7% suggest investors are very worried about a government default.

Chart of the Russian market ETF (RSX):

The United States and the European Union are preparing sanctions against Russia. Economists in Russia have been speculating on how bad sanctions might impact the Russian economy, especially if Russia decides to retaliate with sanctions of their own. We don't have details yet on any sanctions but some are already estimating -$200 billion a year for Russia's $2.5 trillion economy. The real question will be Russian energy exports, which accounts for a massive chunk of revenues for the Russian government.

There are growing worries that this could turn into a military conflict. John Kerry has warned Russia all week that there will be consequences if Russia proceeds with this fake vote in Crimea on Sunday. The U.S. and NATO have been sending more fighter jets to Ukraine's neighbors and Russia is responding after Belarus "asked" Russia for support to bolster their military and Russia replied with half a dozen fighter jets. Two Russian commercial airlines, Aeroflot and S7, have been altered their air routes to avoid flying through Ukraine air space, which could be a sign they have been warned of potential conflict ahead.

Unknown hackers have targeted some Russian websites and taken Putin's presidential website and the Russian central bank website down several times on Friday. Meanwhile the U.S. State Department has issued a travel alert for any Americans in the region and warned of potential "military clashes". Here is a link to the travel alert.

Economic Data

It was a quiet week for economic data in the U.S. Wholesale inventories rose +0.6% in January following an upwardly revised +0.4% gain in December. The Producer Price Index (PPI), a look at inflation at the wholesale level, fell for the first time in three months with a -0.1% drop. Year over year numbers for the PPI are at a very low +0.9%. The University of Michigan consumer sentiment survey declined. Economists were expecting a small rise to 82.0. The latest survey fell from 81.6 to 79.9, a new four-month low.

Overseas Data

The European markets had a rough week with most markets down more than -3%. Germany is one of the biggest trading partners with Russia and the German DAX fell -4% last week. It's down -8% in the last two weeks. Speaking of Germany, their CPI data rose +0.5% for the month. Year over year German CPI is at +1.2%. Elsewhere Eurozone industrial production declined -0.2% last month while Eurozone employment inched higher +0.1% for the quarter.

Asian markets have also been weak. The Japanese NIKKEI fell -6.1% for the week thanks in part to a rally in their currency the yen. Japan said their core machinery orders came in better than expected with a +13.4% gain for the month. Japan's industrial production rose +3.8%, which was slightly below expectations. Japanese GDP was also slightly below expectations with +0.2% growth for the quarter.

Chinese markets were not immune to the global market weakness. The Hong Kong Hang Seng fell -3.6% last week. The Chinese Shanghai is off -2.6%. The entire week was overshadowed by last weekend's disclosure that Chinese exports fell -18.1% in February, to their lowest level since 2009. The disappointing economic numbers just kept coming. Chinese industrial production hit 8.6% growth, which was less than expected. Retail sales fell to their slowest pace in ten years with a +11.8% gain. Fixed asset investment in China fell to its slowest pace since 2002 at 17.9% growth.

The aftershocks of China's first corporate default in 17 years earlier this month continue to ripple out into the market. After years of government bailouts the Chinese government admitted that "this year's challenges are severe" and there could be more defaults. Thus far there has only been one corporate credit default but if we start to see more they could cascade into a market meltdown that brings the Chinese economy down with it.

Last year China's GDP growth target was +7.7%. This year they have lowered it to +7.5%, the slowest growth rate in twenty years. Recent comments from Chinese leaders this past week suggest that they will not meet their GDP growth targets during the first quarter of 2014.

Major Indices:

Believe it or not but in spite of all the hand wringing and worry last week the S&P 500 index is only down -2% from its all-time highs earlier this month. The breakdown below support near 1850 is technically bearish. If this pullback continues the S&P 500 could find technical support at its 50-dma (near 1828) or the 100-dma (near 1808). A -5% correction would mean a dip to 1786.

chart of the S&P 500 index:

The NASDAQ composite just snapped a five-week winning streak with a pullback to short-term support near 4240. If this dip continues we can look for potential support at 4200 and its 50-dma. Below that there should be additional support at its 100-dma near 4100 and below that the 4,000 mark.

chart of the NASDAQ Composite index:

Thanks to the +0.39% bounce on Friday the small cap Russell 2000 index delivered the best performance among the major U.S. indices with a -1.8% decline for the week. You'll notice on the chart below how the $RUT failed at its trend line of higher highs. If this correction lower continues then the 1160 and 1140 area could be support. A drop to 1150 would be a -5% pullback from its highs.

chart of the Russell 2000 index



Economic Data & Event Calendar

The economic reports and events this week will likely be overshadowed by any geopolitical events in Ukraine. Assuming we do not see a military conflict erupt with Russia then the event to watch will be the FOMC meeting on Wednesday followed by Janet Yellen's press conference.

Economic and Event Calendar

- Monday, March 17 -
New York Empire State manufacturing index
Industrial production

- Tuesday, March 18 -
Consumer Price Index (CPI)
Housing Starts & Building Permits

- Wednesday, March 19 -
FOMC rate decision and economic projections
new Fed Chairman Yellen's first press conference

- Thursday, March 20 -
Weekly Initial Jobless Claims
Existing home sales
Philadelphia Fed survey

- Friday, March 21 -

Additional Events to be aware of:

April 18th - U.S. markets closed
April 30th - FOMC interest rate decision and outlook




Looking Ahead:

Will Russian aggression kill the bull market that just hit its fifth birthday a few days ago? We knew the bull market was mature but a month ago investor sentiment was pretty positive with a big bounce in progress off the February low. Thus far the reaction in the U.S. stock market has been relatively mild with Asian and European markets suffering bigger declines. That could change rapidly and Monday could be a volatile session.

Russia will decree Crimea's vote on Sunday to be a success while the Western world will consider it illegal. What happens on Monday is the real question. Does Russia send troops into Eastern Ukraine? Does NATO respond with force? Let's assume for a moment that the situation does not turn violent. Then we could see U.S. stocks bounce. Yet until the situation with Crimea is actually resolved then Russia will remain a new bogeyman for the bull market to fear.

In the meantime the situation in China could have larger implications for the global economy. The latest string of economic data has all been bearish. If the Chinese economy sees a sharp decline then all the countries they buy raw materials from could see a sharp decline. Taiwan has got to be very worried over this Crimea event. If the West does not defend Crimea from being annexed by Russia then why would they expect the West to defend Taiwan from being annexed by China (China already claims ownership of Taiwan but that's a rather murky subject)?

James