Thursday December 6, 2018
We're going to shift gears here as things are moving fast in the markets, with the S&P 500 dropping to a two-week low and Germany's DAX heading for a bear market. It's classic risk-off with havens catching bids as Treasuries, the yen and gold continue to climb higher.
Here's the latest version of the global markets wrap by Samuel Potter and Vildana Hajric:
U.S. stocks slumped, following European and Asian shares lower, as concern resurfaced that trade tensions between the world’s two largest economies are far from resolved. Oil slid as OPEC ministers met in Vienna.
Stocks Slump, Treasuries Gain as Sell-Off Resumes: Markets Wrap
Thursday it flashing red across the equity screens with markets in the U.S. and Europe in full retreat. Here's a quick recap of the lowlights:
- S&P 500 is trading at a two-week low, extending Tuesday's 3%+ slide. The Nasdaq and Dow Average are also sliding, but off the day's lows
- Germany's DAX is headed for a bear market, with benchmarks across Europe down more than 2%
- Treasuries are higher, with the 10-year yield below 2.85%, a level not seen since August. Bunds are also rallying, while BTPs sell off
- The dollar is taking a hit, while the yen and euro rally.
- WTI crude is flirting with $50 a barrel as OPEC meets in Vienna
It looks like 2,650 on the S&P 500 is going to be a key battle ground this morning. That was a key level in November and it has been a focus of price action today. The other big trading level earlier was just above 2,660, but we've broken below that now.
S&P 500 index volume tracked and projected by Bloomberg suggests a heavy day of trading is in store. The initial flurry of activity puts S&P volume on pace for about 3.4 billion shares, which would be 50% higher than the 100-day average.
Stephen, you're right to focus on the DAX's approach toward a bear market...but it's not the only European stock index having an ugly day. Check out this bearish list:
- The Stoxx 600 is down the most since February and trading at the lowest level since December. My colleague Ksenia Galouchko notes the gauge has lost as much as $1.4 trillion in market value since the end of September
- All 19 Stoxx 600 sectors are in the red, led by insurance, autos and banks and over 90% of members
- All other major Western European benchmarks are down well over 2%
Over in credit land, dollar spreads are widening across the board, partly in reaction to tumbling Treasury yields. But the mood more broadly is risk off, and it's hard to see credit spreads doing anything except continue its widening from here.
That means that investment-grade spreads -- which closed on Tuesday at the widest since 2016 -- will set a new two-year high today. Volumes are 60% higher than the average at the time of day, according to Trace data, so this is a selloff with some heft behind it. Dealer-to-affiliate sales, sometimes taken as a proxy for foreign investors, outweigh buys by a comfy margin.
The good news from fixed-income markets is that the bellwether 2s-10s and 5s-30s Treasury curves are not flattening today; they're steepening. The bad news -- this has been caused by an apparent flood of money into front-end bonds. That's indicative of a flight to safety and a desire to take as little risk as possible, even duration risk.
The "xxx curve is at its most extreme since yyy time period" stories can get a little tiresome, but I am still struck that 5-year yields (down more than 9 basis points on the day) have blown through 3-month Libor today, continuing a remarkable about face over the last two months.
This speaks to bank funding costs over the end of the year as well as demand for high quality Treasury paper, and it's a remarkable development. I don't think it necessarily tells us anything new about the economic cycle; only that return of capital is currently a lot more important to investors than return on capital.
Emerging-market stocks have caught the risk-off fever, though they are having a better day than the S&P 500.
- None of the major markets that are open now have yet matched the 2.34% selloff in Taiwan today
- Colombia is the closest at -2.27%; Ecopetrol and Bancolombia are the biggest losers by index points
- Poland and Hungary are also down more than 2% today
- Stocks in Argentina and Mexico, which have been frequent victims of EM volatility this year, are holding up relatively well
It's hard to point a finger at any one reason for today's market selloff. It started in the wee hours with an ugly start in E-mini futures as traders fretted about fat fingers or worse-case algos. The arrest of Huawei's CFO didn't help the trade war conspiracy theory, while Sunil Kesur posited overnight moves looked more like a liquidity event due to yesterday's unscheduled market closures. But the wave of selling in Asia spread to Europe and even upbeat comments from China's commerce ministry about optimism over reaching a trade deal with the U.S. had little effect.
Risk-off sentiment got another jolt as traders arrived in New York. Screens already lit up red when oil took a nosedive as OPEC wasn't able to get agreement on a cut in output. Then there's lingering concerns about Brexit, a Fed overshoot on rates and a global economic slowdown. Whatever the reason for today's risk-off sentiment, it's showing little sign of letting up and nobody's looks ready to step in to catch this proverbial falling knife.
European stocks are ending a day of heavy trading. The initial flurry of activity puts Stoxx 600 volume on track for about 4.5 billion shares, well above the 100-day average.
The selling is intensifying again for stocks, with the S&P 500 losing 2.5% on the day, and breaking below the 2,650 level that many were watching as a potential support. There's minor support at the current level of 2,630, but markets are wont to test prior lows, and so a run at 2,600 wouldn't be too surprising.
What may be unusual though is the ferocity of this two-day decline, now at 5.6%. On a closing basis, this ranks as one of the worst back-to-back drops in the last four years. That's surprising given both the Brexit referendum and the 2015-2016 Chinese growth scare fell in that period.
The new century hasn't been kind to the FTSE 100, as the index sits at the same level it was at when the 21st Century dawned. But factor in dividends and the U.K. benchmark puts continental European peers to shame.
Assuming an investor bought and held the FTSE 100 over that entire time period, yes, price-wise it'd be a nothing-burger. But our hypothetical investor held on, so reinvested dividends matter. And on that basis, the UKX is up 94% over the period, or a 3.56% annual equivalent, according to Bloomberg's total return function.
That's a fatter return than the Stoxx 600 at +2.88%, Germany's DAX +2.48%, Spain's IBEX +2.81%, France's CAC +2.06%, and Italy's FTSE MIB -1.36%. Britain's return is also nearly 2/3rds better than Japan's Nikkei 225 at +2.20%.
The S&P 500 tops them all: +5.30% (through Tuesday's close), though it ever-so-slightly trails the Shanghai Composite's 5.38%.
Fear of peak earnings growth in the U.S. is one factor that has fueled the latest stock rout. In this case, European equity investors have one advantage: profit growth is set to pick up in 2019.
Stoxx 600 EPS growth is estimated at 9.1% next year versus 5.7% in 2018, according to Bloomberg data compiled by my colleague Wendy Soong. That projection is similar to two months ago, with earnings growth expected to be led by tech, energy and industrials. More importantly, Europe is posting the opposite trend of the U.S., where 2019 S&P 500 EPS growth is projected to slow to 9.7% from 24% in 2018. The caveat however, is that given Europe's export exposure to China, there is a risk these profit projections could fall.
Let's put things in perspective. The magnitude of the market plunge might look alarming, but the S&P 500 is actually still up more than 20% since the U.S. elections in November 2016.
Stock investors had an exceptional 2017. A pullback should be expected, and that should be good for the market in a long run.
While the S&P 500 is suffering from another brutal sell-off today, it still looks like a normal correction rather than a start of a bear market. If history repeats itself, we may see the market move higher soon.
Should the S&P close at the current level around 2655, it would be down a little more than 9% from the peak on Sept. 20, just a touch away from the definition of a market correction of a 10% drop from a peak. Since this bull market started in 2009, there have been five corrections, including those that occurred in 2010, 2011, 2012, 2015 and January 2018. Here's a comparison between the S&P's movement since the September peak and the average movement of the previous five corrections.
If it follows a similar path, we'd probably see new record high by April 2019. It's a big if, but the recent data, from the strong ISM non-manufacturing to robust holiday retail sales, is showing no signs that the economy is going to collapse as the market seems to suggest.
European stocks have limped to end of their worst day since the Brexit referendum in 2016.
There are a number of things going on here:
- Investors are concerned about a possible disorderly Brexit after Theresa May lost control of the House of Commons
- The arrest of Huawei's CFO highlighted how little progress was made on China-U.S. trade over the weekend in Buenos Aires
- Bond yield curve inversions in the U.S. don't help, though in previous instances there have been long lags between the initial inversion and the final downturn for stocks
- Here's a quick update with the state of play as Europe closes:
Stoxx 50: -3.31%
FTSE 100: -3.58%
CAC 40: -3.32%
DAX 30: -3.48%
S&P 500: -2.5%
MSCI World Index: -2.5%
MSCI EM Index: -2.8%
U.S. Treasury 10-Year Yield: -7 bps to 2.85%
All-in-all, a lot of red on the screens.
Year-end liquidity may have played a part in the recent market selloff -- especially after Wednesday's unofficial close of U.S. markets. But a key driver is genuine concern about the potential impact of geopolitical tensions on the economy.
Market pundits have predicted global expansion will slow next year, but a convergence to trend growth isn't so alarming. What is ratcheting up the wall of worry is the risk that things will deteriorate well beyond what's now envisaged. What if more tariffs are on the way and hit corporate profit margins? What if a no-deal Brexit is really disruptive beyond the cliffs of Dover? What if the EU parliamentary elections in May change Europe's political landscape?
Faced with these uncertainties, capital expenditure plans are fading, and that in itself is a bad news for growth. The latest survey by Deloitte showed a net balance of 17% of CFOs across Europe plan to increase capital expenditure in the next 12 months, compared with 32% in the previous survey. JPMorgan crunched data on capex spending intentions among U.S. companies from various Fed offices and that too showed a decline. All this is happening when interest rates globally are still close to record lows, leaving central banks with less leeway to deal with the next downturn.
Maybe it was algos, or bottom fishers, or short-covering. Whatever the rationale, there was a spurt of buying just before noon N.Y. time, and that has helped equities come up off the lows.
Another spike up in the TICK index just now suggests the rebound will keep going a bit longer.
Even after a bigger-than-expected drawdown in U.S. crude inventories, energy shares and oil prices are reeling right along with the broader equity market. Traders are keeping a close eye on OPEC and to see what kind of cuts the cartel will make in production.
Terminal readers can find our full coverage of the EIA report on the TOPLive blog here.
There has been a huge shift in sentiment across the U.S. rates spectrum over the morning session with a sharp re-pricing of the the Fed's immediate rate path outlook.
- Odds of a hike at the December meeting are creeping lower (just 16 bps now priced into the Dec. 18-19 meeting OIS)
- The outlook for 2019 is turning dovish with just an additional 36 bps (around 1.5 hikes total) priced into December 2019 FOMC where the hike path hits a peak
- Almost 10 bps of cuts and now priced into the first half of 2020, quite a turnaround
The move has been backed by solid volumes. December 2019 eurodollar futures are rapidly closing in on a million contracts on the session already -- the record was 1.184 million reached May 29 during the Italian bond fallout.
As a result, 12-month eurodollar spreads are cratering:
To get an idea of whether Wall Street is worried about inflation, look to so-called breakeven inflation rates. With the rally in Treasuries today, the implied rate of inflation is making new lows, extending a two-month downwards trend.
All the same, it's pretty clear the mood in the bond market changed rather dramatically at about 7:30 a.m. NY time. The five-year inflation rate expectation now sits at about 1.69%.
Colleague Andy Dunn made a good point when he noted the lack of reassurance from a bigger-than-expected U.S. crude drawdown, and that's probably because energy market watchers are also watching OPEC developments. On that front, the Saudi oil minister says he is not confident of an agreement tomorrow. And as a result, Brent is slipping toward $59.
This is turning into a really, really bad week for OPEC. First Qatar left, then the cartel is unable to reach a decision. Al-Falih's already playing the expectations game, saying he's not confident of a deal. As we warned this morning, the real decision maker wasn't here in Vienna, but in Russia. Al-Falih just said Russia's contribution to a cut was among the major obstacles to get a deal done. I don't see how that's going to change in the next 24 hours, unless the oil price crashes tonight and that forces everyone into a deal on Friday.
You can find our full coverage on OPEC on the TOPLive blog here.
If you were in any doubt that markets are trading their P/Ls rather than their economic views, today's price action may have helped dispel the uncertainty. The composite ISM survey is sitting at one of the top 5 readings of all time (mind you, the services ISM started in July 1997)...and markets are busy pricing Fed rate hikes out for next year and even starting to consider a shock pause this month. The market's tendency to derive the fundamentals from the price action (rather than the reverse) may be a little silly, but as today's Macro Man column notes, the narrative doesn't need to be true to be effective .
Read more here (terminal subscription required):
Can you guess which over-heated equity sector is outperforming?
Easy-peasy: FANG stocks. An equal-weighted index of Facebook, Amazon, Netflix and Google-parent Alphabet is up 0.9% at the moment with all four of them higher on the day. The S&P 500, meanwhile, is languishing with a loss of 1.5%.
If we get a big rebound or, dare I say it, a rally today, then you'll hear the FANG acronym thrown around as leaders of such a move.
Good spot on the FANG outperformance Andy, and I'd add that other technology stocks are showing surprising strength today, too. Cybersecurity companies Okta and Zscaler are each up 13% after forecasting revenue in the current quarter that exceeded the highest analyst estimates. Software company Cloudera is up 9% after giving strong forecasts. That helped fuel a 9% gain for merger partner Hortonworks.
The toughest year for U.S. bank stocks since 2011 got a little worse. Lenders have tumbled to a 15-month low, with all 24 members of the KBW Bank Index down. Citigroup dropped to the lowest since April 2017 -- after CFO John Gerspach on Wednesday warned his firm might post declines in fixed-income trading revenue, and was cautious about 2018 targets.
And Citigroup is just the third-worst performer in the KBW bank index at the moment. SVB Financial holds the top spot, tumbling as much as 14%, after Wall Street analysts dinged its first investor day in years (held on Tuesday).
More than $3.6 billion has been pulled from the SPDR S&P 500 ETF today as the index turns deep red. But don't abandon hope. The index has returned to the 2,650 level we talked about earlier and pushed above it.
This chart shows where the price action has been today and 2,653 is the biggest level. We're moderately above that now.
And here's a quick catchup on where we are right now:
- The S&P 500 is off its lows of the day, now -1.4%. At its worst it was -2.91%
- Treasury yields have also rebounded. The 10-year is now -4bps to 2.88%; the 5-year is -5bps to 2.74%
- The dollar remains close to its lows of the day, -0.3%. EUR, JPY, GBP and CHF are all higher.
- Most emerging-market currencies are down against the dollar, but MXN, often seen as a bellwether for EM generally, is up 0.8% against the greenback
While we've all been fretting about bond curve inversions and what they may or may not mean, you may have missed what has really been happening in the Treasuries curve over the past few days -- the sharp drop in yields. You can see it in this chart of the curve from six months out to 10 years.
All else being equal, lower yields mean cheaper funding, more economic activity and higher prices for stocks. Of course, in the immediate term what this shows is that the bond market is playing its usual role in rallying as stocks sell on risk off. That hasn't always been the case this year, so it's something of a relief to see it.
The Nasdaq 100 is nearly in the green, recouping an earlier drop of as much as 2.42%. But it may not be a sustainable gain just yet. Only 42 of the 103 stocks in the index are rising. And of those 42, far and away the biggest influence on the rebound to the unchanged mark are the usual mega-cap suspects: Amazon, Google parent Alphabet, Facebook and Netflix.
There is one outlier in the FANG crowd: Costco. The warehouse retail operator is surging 2.8% today after its comparable sales gain of 9.2% trounced the analyst estimate of 5.4%.
Given the carnage at the front end of the yield curve, it's hard to argue price action in the Treasury market is unjustified. The shift lower in yields has been largely in line with that explained by my model, albeit with a gap of 10 basis points emerging over the last six weeks or so.
In fact, I think we can explain the emergent gap simply by taking into account what we think we know about what will happen this month.
As a reminder, the model thinks that each 25 basis points in the top end of the Fed funds target is worth 20 basis points to the 10-year yield. So if the FOMC hikes rates as expected, that will push the model output up by 20 basis points.
However, we also have to account for the eurodollar futures roll. The 2nd versus 6th contract spread is currently 7.5 bps steeper than the 3rd versus 7th, which will become the new 2nd vs 6th in a week and a half. With a coefficient of 1.3, that suggests that the model output will be 9.75 basis points lower once the roll happens on Dec. 17.
Combine the two factors -- the Fed hike and the contract roll -- and we find that we "know" that the model output will rise by 10.25 basis points when all is said and done...which suggests that the 10-year yield is pretty much exactly where it should be given market pricing.
Should the eurodollar curve re-steepen a bit (it was 20 basis points wider a month ago!), the equilibrium level of the 10-year yield will go shooting back up.
If the recent moves in equities, oil and Treasuries reflect traders closing their positions before year-end, then one has to worry about the dollar.
It's tricky to get an accurate estimate of the positioning of the market, but both the CFTC data and Citigroup's Pain Index points to stretched long positions in the dollar.
In addition to the crowded positions, there are also fundamental reasons to question the dollar strength. Investors have downgraded the U.S. growth outlook by driving stocks and yields down. If the U.S. cyclical outperformance story is cast in doubt now, the structural challenge of the twin-deficit will surface to the forefront for the dollar.
Today's trade data showed that the non-petroleum trade deficit in the U.S., which is sensitive to the valuation of the dollar, widened to a record. Here's a chart overlaying the dollar and the non-oil deficit as percentage of GDP (lead by three years).
Watch out for another capitulation in one crowded trade.
The yen is extending gains against all G-10 currencies today as investors look for shelter. The appreciation against the dollar is the biggest since July.
Stronger risk-off sentiment is pushing the safe-haven currency to the top of the pile on a year-to-date basis. Here's why the yen is still the world's number one risk-off currency.
- Japan has a generous current-account surplus
- It's net international-investment position is among the largest in the world
- Its financial flows have broadly been dominated by investors who are less likely to be put off by negative rates in Japan
The giant bounce in the market is leading to candlestick hammers all over the place, most notably in the charts of the Dow Jones Industrial Average and the S&P 500.
The technical analysis pattern, a favorite of chartists, generally occurs at the end of a downturn and may suggest to some that a short-term bottoming process may be occurring.
Biotech, which has traditionally been seen as a barometer for risk, is outperforming its health-care peers, with the Nasdaq Biotech index turning positive. Mid-caps are leading gains, and some M&A enthusiasm is perhaps playing a role here after GlaxoSmithKline's $5 billion acquisition of Tesaro re-ignited deals speculation.
Growth stocks are outpacing their value peers in health care, as well as in the broader market, Jared Holz of the Jefferies trading desk points out. Recent "winners" like pharmaceuticals, managed care and medtech are being sold across the board, he notes, as investors seek to keep profits.
Health care remains the top performing sector in the S&P 500 this year, up 11%.
There's more weakness creeping into stocks again. We're off the lows of the day and back to the 2,650 level, which has been the key battleground in today's session. The good news though is that it increasingly looks like stocks failed to create a new low today.
- S&P 500: -2.0%
- Dow Jones: -2.15%
- MSCI World: -2.0%
- Nasdaq: -1.2%
- 10-Year UST Yield: -6bps to 2.85%
- 5-Year UST Yield: -6bps to 2.72%
- BBDXY Dollar index: -0.3%
- JPY: +0.7%
Now, a single anecdote doesn't constitute data, so take the following with a grain of salt:
When I nipped out to the drugstore to stock up on dental hygiene products (I had a dentist's appointment yesterday), the cashier checked her phone and said, ``Wow, the stock market's getting killed again. What's going on? We're all getting worried.''
Now, there's no guarantee that this level of concern is pervading American society at large, but still -- I found it interesting. If this type of feeling is indicative of the general populace, we may well have reached a tipping point where equity market weakness starts to hit consumer confidence.
Amid all the gloom today, the Mexican peso is rallying hard. That partly reflects dollar weakness and the decline in U.S. yields, but most EM currencies are down on the day. And the Mexican peso, often the victim of political headlines lately, is the last place you'd look for a safe haven right now. So what's going on?
It looks like the currency is bouncing off 20.5 again. That's been a major level for the past month as the peso has repeatedly failed to establish a new range. It looks like today's dollar decline has helped it rebound once again.
Most of the outstanding interest in the USD/MXN options market is below this level, so traders have a vested interest in pushing lower when they can.
It's been a challenging year for investors. Not only has market volatility been creeping higher, but volatility itself has become more volatile. In fact, the 260-day realized volatility of VIX has increased to the highest since the VIX was created in 1990.
What it means is that the market is more frequently alternating between fear and greed without much of a direction. Case in point: Last week, the S&P 500 registered the best weekly gain in seven years, only to give it all up, and more, this week.