Stocks were trapped in a storm of selling that continued to batter the global markets for the second week in a row. Last week started with a -5.3% drop in the Chinese Shanghai index and it ended on Friday with another -3.5% drop in Chinese stocks. Worries about a weak Chinese economy and a potentially weaker Chinese yuan continue to pressure markets around the world.

The non-stop decline in crude oil is also undermining markets. WTI crude oil crashed -5.7% on Friday, which pushed its weekly decline to -11%. Oil's drop on Friday was investor reaction to news from the International Atomic Energy Agency that Iran had met its requirements to end sanctions. If sanctions are lifted Iran will be free to sell their crude oil on the open market - a market that is already deluged by an oversupply of oil. On Saturday the U.S. announced that sanctions on Iran would be lifted in accordance with the controversial deal lead by the Obama administration last year.

Oil's fall fueled a -3.7% drop in energy stocks and a -4.1% decline in oil service stocks last week. One analyst at Oppenheimer said half of U.S. shale drillers may end up going bankrupt. This was followed by news that loan loss reserves at major banks were rising for the first time in years seemingly in anticipation of debt trouble in the energy industry. Oil settled at $29.44 a barrel, the lowest level since November 2003. There is a growing camp of analysts forecasting oil will fall to $25 a barrel or lower.

Overall it was a sour week for equity markets. It didn't help we had a high-profile market call from RBS telling clients to "sell everything." The NASDAQ composite lost another -3.3%, which pushes its 2016 loss to -10.4%. The big cap S&P 500 index fell -2.1% for the week. This leaves the S&P 500 down -8.0% for the year. The small cap stocks have fared worse with the Russell 2000 index losing -3.6% last week and down -11.3% year to date.

Investors were indeed selling just about everything. Transportation stocks are down -10.9% year to date. The SOX semiconductor index is down -13.4%. Banking stocks are off -13% in the first two weeks of 2016. Biotech stocks have been hammered with a -16% plunge this year. You already know about oil's decline. Copper and platinum prices fell to seven-year lows last week. Traders tried to find safety in U.S. bonds, which drove the yield on the 10-year note down to 2.03%.

It has been a global market rout. European stocks were down -2% on Friday. The Stoxx Europe 600 index fell -3.4% for the week and is now down -9.8% for the year and down -20% from its April 2015 highs, putting Europe in a bear market. The Chinese Shanghai index fell -9.0% for the week. It's down -18% in the first two weeks of January and also in bear market territory.

Economic Data

It was another busy week for economic data in the United States. The New York Empire State manufacturing survey for January crashed from -4.6 to -19.4. It was the biggest drop in seven years. We haven't seen this index at these levels since early 2009 (during the financial crisis). The new orders component plunged from -6.2 to -23.5.

U.S. industrial production for November was revised lower from -0.6% to -0.9%. Meanwhile the reading for December came in at -0.4% when economists were hoping for -0.1%. This is the fifth monthly decline in a row. Elsewhere the business inventory data showed a -0.2% drop in November following a flat reading in October.

Inflation at the wholesale level, as seen in the Producer Price Index (PPI), was up +0.3% in November but declined -0.2% in December, which was lower than expected. On a year over year comparison the PPI is down -1.1%. The core PPI, which excludes food and energy, managed to rise +0.1%. Overall there is virtually zero inflation in the U.S.

Another big disappointment last week was the retail sales figures. The Commerce Department said December retail sales fell -0.1%. That is definitely bad news during the crucial holiday shopping season. Restaurants managed to see a gain in December but it was overshadowed by declines in apparel sales, electronics, and general merchandise. December's -0.1% reading is the slowest pace of retail sales in the U.S. since 2009. For the whole year retail sales rose +2.1% in 2015. That is significantly below the +5.1% average seen over the prior five years.

Falling gasoline prices at the pump likely helped boost consumer sentiment. The latest consumer sentiment survey for January improved from 92.6 to 93.3. This could decline as the next survey accounts for the plunge in stocks.

Overseas Economic Data

The latest round of economic data out of China continues to worry the markets. Their Consumer Price Index (CPI) for December was actually in-line with estimates at +0.5% for the month. China's Producer Price Index (PPI) was not so lucky and showed a -5.9% decline. China also announced that their December exports fell -1.4%, which was better than expected but still the sixth month in a row of year-over-year declines.

Nearby Japan said their Core Machinery Orders for November plunged -14.4% for the month. This was almost twice as bad as expected and down from +10.7% the prior month.

Looking toward Europe, Span said their industrial production for November was up +4.2%, which was above expectations. Italy announced their industrial production for November fell -0.5%. The Eurozone said their industrial production for November declined -0.7%, following a +0.8% gain in October. Spain also reported their CPI, which fell -0.3% for the month. Italy's CPI for December was flat at 0.0%. France said their CPI for December was up +0.2%. Essentially there is no inflation in Europe either.

Major Indices:

The brutal two-week decline has shaved off -8.0% in the S&P 500 index. Friday's decline left the index down -10.8% from its early November highs, which puts it in correction territory. That's the bad news. The good news is the index is severely oversold and could be ready to bounce.

You can see on the daily chart that the S&P 500 pierced what should have been support at its August and September lows. The good news is that it bounced intraday and failed to close below that area. Friday's sell-off was a combination of many factors including option expiration and the last day ahead of a long, three-day weekend. Cautious traders wanted to sell instead of holding over a long weekend where there could be more negative headlines overseas.

Should the S&P 500 rebound from here then every support level it broke on the way down is now potential resistance. I'd focus on the 1,950 level as a pivotal area to watch. On the other hand, if the S&P 500 doesn't bounce from here then the next spot to watch for potential support is the October 2014 low near 1,820.

Daily chart of the S&P 500 index:

Weekly chart of the S&P 500 index:

The NASDAQ composite has been hammered this year with a -10.4% drop in the first ten trading days of 2016. It is tough to say where support might be with the NASDAQ below its late September low (see chart). If the NASDAQ were to bounce from current levels I'd use a Fibonacci retracement tool to look for potential resistance areas. The 4,600-4,800 area could be a challenge. If the sell-off continues then the August low near 4,300 is potential support.

chart of the NASDAQ Composite index:

Weekly chart of the NASDAQ Composite index:

Small cap stocks have been crushed this year. The normal December-January strength did not show up. Investors seeking to avoid risk have fled the small cap arena. Part of the problem is the large amount of smaller energy companies and biotech firms inside the Russell 2000. These two groups have been decimated and they are dragging the rest of the small caps lower.

The Russell 2000 ($RUT) fell -3.6% for the week. It's now down -11.3% year to date (two weeks). The $RUT is now down -22% from its June 2015 highs, putting it firmly in bear-market territory. It's tough to say where the next support level is. The $RUT pierced support at the 1,000 level but managed to pared its loss on Friday. There is a chance it rebound now. If not the next support area might be the 950 level.

chart of the Russell 2000 index

Weekly chart of the Russell 2000 index

Economic Data & Event Calendar

China remains in focus this week. The country will provide an update on its retail sales, its industrial production, and its Q4 GDP estimate. Right now economists are expecting Chinese Q4 growth to be +6.9%, the slowest pace in years.

Overseas there are several countries announcing their latest interest rate decisions. These include Brazil, Canada, Kenya, and Turkey. The only one of any real importance to the market will be Europe. The ECB has an interest rate meeting on Thursday followed by a press conference. Will they announce changes to their QE program?

- Monday, January 18 -
Chinese Retail Sales
Chinese Industrial Production
China Q4 GDP estimate
Bank of Japan Governor Haruhiko speaks
Martin Luther King, Jr. Day (U.S. markets closed)

- Tuesday, January 19 -
NAHB Housing market index

- Wednesday, January 20 -
World Economic Forum begins in Davos, Switzerland
Consumer Price Index (CPI)
Housing Starts and Building Permits

- Thursday, January 21 -
European Central Bank interest rate decision
ECB press conference
Philadelphia Fed Survey

- Friday, January 22 -
Eurozone manufacturing data
Existing Home Sales
Chicago Fed national activity index
U.S. Markit manufacturing PMI

Additional dates to be aware of:

Jan 18th - 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)

Looking Ahead:

It should be no surprise that investor sentiment has soured significantly. The latest AAII survey showed bearish investors rose +7.3% to 45.5%. This number could jump even further since the survey was taken midweek, prior to Friday's plunge.

AAII sentiment

It did not help when we have major analyst firms telling clients to "sell everything". The Royal Bank of Scotland (RBS) made waves on Tuesday when they issued a note to clients that 2016 could be a "cataclysmic year". They warned investors that stocks could plunged -20% and brent crude oil could fall to $16 a barrel. Their suggestion was to "sell everything except high quality bonds. This is about a return of capital, not return on capital." The RBS research team believes that the markets is flashing the same warning signals shown just before the 2008 financial crisis. Of course not everyone agrees. Multiple market pundits and analysts firms came out with their own opinions saying this is not 2008 all over again.

Recession Imminent?

There has already been a lot of speculation about a corporate earnings recession. The S&P 500's Q3 earnings were negative. Now analysts are forecasting Q4 earnings growth to be somewhere in the -3% to -6% range depending on who you listen to. That would be two consecutive quarters of earnings declines, i.e. an earnings recession.

Now there is a looming worry that the global economy and the U.S. economy could be facing a recession. If you haven't noticed the commodity index ($CRB) just sank to new 44-year lows on Friday. Falling commodity prices would suggest weak and declining global growth. The parade of slowing economic data has pressured forecast at the Atlanta Fed. They publish their GDPNow estimate, which is now forecasting U.S. Q4 growth of just +0.6%. We will find out how close they are when the government publishes their first estimate on Q4 growth on January 29th.

We should note that since the end of World War II the U.S. has experienced a recession, on average, about every five years. It has been seven years since our last one so we are a bit overdue. Here is an article on CNBC discussing the prospects of a recession and how the next one will be worse: link.

Pace of Fed Rate Hikes

One of the biggest stories last week and likely the rest of 2016 will be the pace of rate hikes at the Federal Reserve. The Fed raised rates in December for the first time in nearly a decade. It was a controversial move as many believed the economy did not support a rate hike. Now it looks like the critics were right. The U.S. economy continues to slow.

Yet Fed officials continue to talk about raising rates this year. St. Louis Fed President James Bullard spoke last week and shared his opinion that the Fed will likely raise rates four times in 2016. The market disagrees. Bond traders are only forecasting two rate hikes this year. Meanwhile some market watchers wonder if the Fed will be forced to postpone rates altogether due to lousy economic conditions. A few outliers suggest the Fed may have to backtrack and lower rates again. Here's a Reuters article on the subject: Murmurs of a Fed Reversal.

Market Outlook

I cautioned readers last week about the rash of bearish signals suggesting trouble ahead for the market. On a short-term basis there are some factors that suggest we are oversold enough for a bounce soon. The question is whether or not traders will buy the bounce or will they sell the rally?

There were a few high profile earnings reports last week. While the companies beat estimates traders sold the news anyway. That doesn't bode well for this earnings season. Hopefully it was merely a reflection of the broader market weakness last week.

Currently the market faces a lot of uncertainty and that is the one thing Wall Street hates most. The short-term trend is down but if we are patient there are still opportunities for longer-term traders like ourselves. We just need to be exceptionally picky about what we trade and when we trade it.

Now is probably a good time to build a watch list of stocks you'd like to buy when they bounce from support. There is no need to try and catch the absolute bottom as that tends to be a dangerous game.

~ James