The first week of 2016 was a record-breaker and not in a good way. Markets were slammed right from the start thanks to disappointing economic data out of China and rising tensions in the Middle East. Unfortunately the negative headlines didn't quit. China was also devaluing their currency. North Korea made headlines when they claimed to have successfully detonated a hydrogen nuclear bomb. Friday's headline of better than expected jobs numbers in the U.S. was not enough to stop the stock market slide. By Friday's closing bell the S&P 500 index and the Dow Jones Industrial Average had both delivered their worst five-day start to a year on record!
We will talk about news out of China in a bit. The North Korea news was a surprise. Normal nuclear warheads are bad enough but hydrogen bombs are several hundred times more powerful. The initial headline helped rattle an already shaky market. The "experts" were quick to doubt if N. Korea had actually achieved a hydrogen bomb since the earthquake it generated was more in-line with a typical nuclear explosion. Why should we care? World leaders see Kim Jong-un, the 33-year old leader of North Korea, as unknown wildcard. Would he be crazy enough to actually attack another country with nukes? No one really knows.
Meanwhile one of the factors that launched stocks into last week's plunge was a surge in tensions in the Middle East. Last weekend Saudi Arabia executed several prisoners. One of them was a prominent Shitte cleric. Saudi is mostly Sunni muslim. Their arch rival is Iran, which is mostly Shiite. Protestors in Iran stormed the Saudi embassy in Tehran (capital of Iran). In response Saudi Arabia cut diplomatic ties with Iran. Many worry that this is an early step toward a potential military conflict between the two regional powers.
After a week of bearish headlines and volatile trading in the Chinese markets all ten S&P sectors posted losses for the week. Energy stocks fell -6.8% while materials were the worst with a -7.8% weekly decline. Utility stocks fared the best with a -0.4% loss. All of the major U.S. stock market indices were down -6% or more for the week. European stock markets and the Hong Kong market produced their worst weekly performance in more than four years. The Japanese NIKKEI index fell five days in a row. Merrill Lynch said investors pulled $8.8 billion out of the U.S. market last week. Money looking for safety made its way into U.S. bonds, which saw inflows of +$3.3 billion.
All together the S&P 500 index lost more than $1 trillion in market cap in the last five trading days. The NASDAQ composite erased all of its gains for 2015. The global equity markets erased $2.3 trillion in value just last week.
Crude Oil Declines
The tensions between Iran and Saudi Arabia failed to boost oil prices. Crude oil plunged to new multi-year lows with the commodity falling five days in a row. WTI crude oil plunged -10% for the week to close at $32.88 a barrel. There is some speculation that a growing conflict between Saudi and Iran could see both countries actually pump more oil. Saudi wants to punish its rival with lower prices and Iran could be forced to sell more to make up the difference.
The weekly rig count from Baker Hughes should have been bullish for oil. Active rigs fell by another 34 to 664. Rigs in the U.S. have plunged -1,267 from the peak last year. At the same time, U.S. production has not slipped that much (yet). The United States is actually running out of storage. When that happens it will put even more pressure on crude oil. That is not good news for the stock market since oil declines have been pressuring the market lower for weeks.
Chart of active rigs
The calendar rolled over into a new month and that means lots of economic data. The U.S. ISM index, a gauge on manufacturing activity, continues to sink. The December reading for the ISM dropped from 48.6 to 48.2. This is the sixth monthly decline in a row. Numbers under 50.0 suggest economic contraction. The ISM hasn't been this low since 2009. Meanwhile the ISM services (non-manufacturing) index dipped from 55.9 in November to 55.3 in December, which was below estimates but still in positive territory.
Construction spending in the U.S. fell -0.4% in November. Not only is this worse than expected but marks the first time it has declined in over a year. The monthly PMI manufacturing index slipped from 52.8 to 51.2. Factory orders fell -0.2% in November. Another disappointing was the -5% drop in the seasonally adjusted annual pace of car sales, which came in at 17.3 million. On the plus side the monthly ADP Employment Change Report improved from +217,000 in November to +257,000 in December, which was better than anticipated.
Monthly Nonfarm Payrolls (jobs) Report
The monthly nonfarm payroll (jobs) report is normally a market mover. Economists were expecting a drop from +211,000 in November to +200,000 in December. The BLS numbers showed a surge to +292,000 jobs in December. The November reading was revised higher from +211K to +252K. The October jobs report was revised higher from +298K to +307K. Overall it was a blow out report and should have been bullish for the market.
Unfortunately the better than expected jobs data had a temporary effect on stocks. Analysts began digging into the details and found that wage growth had stalled (+0.0%). The unemployment rate was unchanged at 5%, a seven-year low. The broader U6 unemployment rate, which measures those without jobs and those who are underemployed was unchanged at 9.9%. Another fly in the ointment was the rise of people with multiple jobs. If you have two or three part time jobs because you can't find full time work then each part time job is counted in the monthly report. The bad news is that 64% of all job gains since May 2015 have been due to people getting extra part time jobs.
Overseas Economic Data
China was a major factor in the market's sell-off. Last weekend they reported their official manufacturing PMI for December only improved from 49.6 to 49.7. Numbers below 50.0 represent economic contraction. At the same time the Caixin manufacturing PMI for December dipped from 48.6 to 48.2. This news sparked a -7% plunge in the Chinese market on Monday and stocks were eventually halted before the close due to circuit breakers.
The services number look a little better. The official PMI services index improved from 53.6 to 54.4. Unfortunately the Caixin PMI services index declined from 51.2 to 50.2. Analysts tend to look at the official numbers with skepticism so the Caixin numbers tend to have more weight. The markets were also not happy with the Chinese government devaluing their currency to new five-year lows against the dollar.
The Chinese government exerts a lot of control over their stock market, especially since their market panic last summer. They were planning to remove a ban on insider selling on Friday. This may have helped fuel another big sell-off on Thursday. The selling was so bad on Thursday that the Chinese market was halted in the first 30 minutes of trading when the index fell -5%. This sparked a 15-minute trading halt due to circuit breakers. When the market reopened stocks plunged another -2% until trading was halted for the rest of the day. Their entire Thursday session lasted about 45 minutes.
After Thursday's decline the Chinese government said they would not remove the insider trading selling ban. They also announced they would remove the circuit breakers starting this week. After a -15% plunge by Thursday's session the market bounced on Friday. It was the most volatile week of trading in the Chinese market history and the Shanghai index ended the week down -9.9%.
The European markets did not react well to the volatility in China or the weakness in the U.S. and the region suffered its worst weekly loss in more than four years. Meanwhile economic data out of Europe was mixed. The Eurozone manufacturing PMI for December inched higher from 53.1 to 53.2. Their services PMI for December also improved with a move from 53.9 to 54.2. Numbers above 50.0 suggest growth. The Eurozone's CPI for December was up +0.2% and their core-CPI was up +0.9%. This is positive since Europe is trying to fight off deflation. Too bad their PPI, wholesale inflation, fell -0.2% in December. The PPI is down -3.2% from a year ago.
Eurozone unemployment inched higher from 10.5% to 10.6% in December. That was actually better than expected. November retail sales for the region slipped -0.3% for the month and only rose +1.4% from a year ago. That's not very impressive considering the holiday shopping season.
The S&P 500 index plunged -6.0% last week. This surpassed the -5.3% loss from the first week of 2008 and marked the worst start to the year in history. The big cap index is down -7.5% in the last seven trading days (from its December 29th peak). Coincidentally it's down -7.3% from when the Federal Reserve raise rates in mid December. Thus far the historical trend of market declines when the Fed starts raising rates is still 100% accurate. We will have to see where the S&P 500 stands another couple of months from now.
Kensho is a global analytics firm. They noted that the S&P 500 index has fallen -5% (or more) in a five-day period only 26 times in the last decade. According to their research the next five days is positive 65% of the time with an average gain of +1.3%. In this scenario Kensho also notes that the best performing stocks tend to be commodity-related, material stocks, or consumer discretionary.
Technically the short-term trend is down (obviously!) and the S&P 500 has sliced through a handful of potential support levels. If stocks do not bounce on Monday then the next support levels to watch are 1,900 and the 2015 lows. The 1,900 mark could be round-number, psychological support. However, odds are good we could see the S&P 500 ignore 1,900 and target the 1,867-1,871 area, near the August and September 2015 lows.
FYI: The S&P 500 is down -8.8% from its November highs. A drop below 1,898 would put the index is correction territory (-10% from its highs).
Daily chart of the S&P 500 index:
Weekly chart of the S&P 500 index:
The NASDAQ composite was crushed last week. The index fell -7.26%, which erased all of its 2015 gains (+5.7%). The NASDAQ is now in correction territory, down more than -10% from its highs. The 4,500-4,600 area should offer support but it's not something I would bet on. The index is obviously oversold, now down -464 points or -9% from its December 29th high just seven trading days ago. When it does bounce we can expect the rebound to be pretty sharp.
chart of the NASDAQ Composite index:
Weekly chart of the NASDAQ Composite index:
Normally small caps see strong gains in both December and January. If you haven't noticed this has not been a normal year. Small caps underperformed in December 2015 and the Russell 2000 index is already down -7.9% in 2016. The index has been in free fall from its December 29th high of 1,160 and is now down -9.8% in the last seven sessions. The breakdown below its September-October low near 1,080 certainly looks ominous.
Another worrisome development is the $RUT's close below its 200-week moving average (no shown below), which hasn't happened since 2011. Optimistically the $RUT closed just above potential support near 1,040, which was the low back in 2014.
If the $RUT doesn't bounce near 1,040 then the next stop could be the 1,000 area. Obviously moves this extreme are not very common and the $RUT will bounce eventually. Keep in mind when it does bounce that it is just a bounce and the overall trend is down.
chart of the Russell 2000 index
Weekly chart of the Russell 2000 index
Economic Data & Event Calendar
Most of the economic reports this week come out on Friday. Odds are they will be overshadowed by the commencement of Q4 earnings season. Alcoa (AA) begins earnings season on Monday and we will see a few high-profile names report before the week is out (Citigroup, JPMorgan Chase, Wells Fargo, and Intel to name a few).
We will hear from several central bank officials this week. Multiple Federal Reserve members and European Central Bank members will be speaking at various events throughout the week. You never know what they might say that could influence the markets. The same holds true for Obama's last state of the union address on Tuesday and the next republican presidential debate on Thursday.
FYI: Monday, January 18th the U.S. markets are closed.
- Monday, January 11 -
Japan market is closed
Q4 Earnings season begins
- Tuesday, January 12 -
Bank of France policy meeting
U.S. President Obama delivers State of the Union address
- Wednesday, January 13 -
Federal Reserve Beige Book Report
- Thursday, January 14 -
Bank of England interest rate decision
European Central Bank minutes from December 2-3rd meeting
- Friday, January 15 -
U.S. Retail Sales data
Producer Price Index (PPI)
New York Empire State manufacturing data
Industrial Production data
University of Michigan Consumer Sentiment survey
U.S. business inventory data
Additional dates to be aware of:
Jan 18th - Martin Luther king, Jr. Day (markets closed)
Jan 27th - FOMC policy update
Feb 15th - Presidents Day (markets closed)
Mar 16th - FOMC meeting, updated forecasts
Mar 16th - Fed Chairman Yellen's press conference
Mar 25th - Good Friday (markets closed)
There was a lot of bearish commentary last week as stocks plunged to new relative lows. Worries over a slowing global economy are mounting. The World Bank reduced their 2016 global growth forecast to +2.9% a few days ago. That is down from +3.3% several months ago. They still expect improvement over last year with their 2015 forecast at +2.4%.
Slowing growth has crushed demand for commodities and shipping. The CRB commodity index fell to new 42-year lows last week. Oil's decline certainly doesn't help. Meanwhile the Baltic Dry Index for shipping rates just set another all-time low. Supply of ships stronger than demand and prices to ship dry goods continues to sink.
Chart of the Baltic Dry Index ($BDI)
Worries over a slowing economy are also hitting forecasts for the United States. The recent parade of disappointing economy data drove the Atlanta Federal Reserve's GDPNow forecast to new lows. Their GDPNow Q4 growth forecast has fallen from +1.0% earlier in the week to +0.8% by Friday.
Chart of the Atlanta Fed's GDPNow forecast
Every week we look at hundreds of charts. Some weekends I look at 1,200 to 1,500 stock charts. Right now the broader market looks very ugly. I am surprised the major indices aren't lower. The research team at Bespoke Investment also noted how the broader market is already in a bear market.
A recent Bloomberg article discussed how the average stock is already down -24% from its highs. A bear market is classified as a -20% drop from the highs. The average small cap stock is down -27.6%. Mid cap stocks are off -23.6%. Large cap stocks, on average, are down -19.9%. So why are the major indices holding up better than average? That's because a handful of large cap names have managed to prop them up. This was a running concern throughout the last half of 2015. You can read more about it
Bespoke Chart on Bear Market
Last week's market plunge emboldened the bears and sent fear shooting through the hearts of bulls. We are hearing more and more analysts warning investors to avoid the stock market. Last week Bank of America's Chief Investment Strategist Michael Hartnett told clients they should stay in cash until one of three things occur. His team's advice was to wait for one of the following conditions to be met before moving back into stocks:
* China and U.S. PMI both rise back above the 50.0 mark.
* Two-way risk emerges in CNY and oil inducing value buyers of [high-yield] and [emerging market] debt.
* A spike in volatility and/or an asset price reset induces Fed to pause
Bank of America joins other firms Citigroup, UBS, and RBC Capital Markets who are warning clients to avoid stocks. You can read the Bloomberg article
Q4 Earnings Season Estimates
One of the biggest events of the month will be Q4 earnings season. The outlook isn't pretty.
Q3 2015 saw S&P 500 earnings decline about -1.8% while revenues fell -4.0%. The biggest weight on earnings was the energy sector, which was slammed by weak oil prices. Just over three months ago analysts were forecasting +1.1% earnings growth in Q4 2015. Today they have adjusted their expectations down to -4.2% earnings growth (another forecast sees a decline of -5.5% earnings growth). Q4 revenue growth is also expected to be negative. We haven't seen back-to-back quarterly earnings declines since 2009.
Disappointing corporate earnings results and bearish guidance could be the next catalyst to drive stocks lower in 2016. On the other hand, expectations might be too low and results could come in bad but better than expected then we might see stocks rally instead. Q4 earnings results and guidance will be a major driver for stocks over the next few weeks.
Hopefully we have learned by now that seasonal trends are not guarantees. The good news is that this goes both ways.
Right now market pundits are freaking out because of all the seasonal bearish signals. The Santa Claus Rally did not show up. The first five days of January are seen as an early warning indicator for the month of January. After last week's first five days of the year the signal is very bearish. Another signal was the Dow Industrials breaking down under their December lows.
All of these events are bearish by themselves. Together we have a trifecta of bearish signals. Let me reiterate they are not guarantees of a bearish market ahead. According to the Wall Street Journal, when the Dow Industrials or the S&P 500 index was down in the first five days of the year there was only a 50% chance of the market being down for the year. It is too soon to panic about the market based on last week's performance, no matter how ugly it was. That doesn't mean I'm not cautious. The short-term trend is obviously down. I would focus on the tone of Q4 earnings results and guidance over the next three weeks as a sentiment signal for the stock market.
Be patient and wait for your entry point.
"The one fact pertaining to all conditions is that they will change."
~ Charles Dow, 1900