Market Meltdown

U.S. stock prices could continue to correct, but it’s too soon to say whether this is the big one.


The ‘big one’ is relative, but several strategists have built a correction of 10 percent or more into their forecasts for this year. Still, they mostly expect the market to move higher and end the year with gains.


“Overall, we don’t think this correction is going to turn into much. There’s pretty good support for the S&P at 1,800. That’s kind of where I would expect this to gravitate down towards. Below that, it’s 1,775,” said Andrew Burkly, Oppenheimer Asset Management head of institutional portfolio strategy.


A combination of factors rattled stocks Thursday, most prominently concerns that a slowdown in China will bite into global growth. A flash Purchasing Managers’ Index (PMI) report from HSBC showing a contraction in Chinese manufacturing activity spooked world markets. Despite an improvement in European PMIs later in the day, world stocks remained under pressure.


Then in the U.S. session, existing home sales were weaker than expected, as was Markit’s PMI, and while that data point hasn’t been a big market mover, negativity prevailed and stocks sold off. Friday afternoon, the Dow Jones industrials ($INDU -1.96%) closed down 318 points to 15,879, the Standard & Poor’s 500 Index ($INX -2.09%) fell 38 to close at 1,790 and the Nasdaq Composite Index ($COMPX -2.15%) fell 91 to 4,128.


Scott Redler of T3Live.com said traders were fairly optimistic ahead of the China data, so many were long Wednesday.


“It seemed as if the China numbers were good that we were going to get a trade to new highs, and I guess the overnight news didn’t cooperate. With that being said, I came in pretty long and a I think lot of traders went out long (Wednesday) because things were acting well, and then they reduced risk early in the day,” said Redler, who follows the market’s short-term technicals. “We sliced through the eight-day and closed near the 21-day (moving average on the S&P.) This is the second time it happened in 2014, and I would say the bears have short-term control right here.”


The Dow briefly fell through its 50-day moving average but bounced back.


“Everytime, we’ve seen a move like this, within two days we snap back. If we don’t snap back in the next couple of sessions — back above 1,835-ish, the next support to watch for further downside would be 1,815,” he said. “A break and close below there seems to be an air pocket down to the 1,765 area.”


As the market sold off Thursday, there was market talk of big sellers of equities, and at the same time, there was a big move into Treasurys.


David Ader, chief Treasury strategist at CRT Capital, pointed out that bond market volume was at one of its three heaviest levels since mid-December. The last was on Jan. 10 when the weak December jobs report was released on and bond prices rose. The other was during the Dec. 19 Fed meeting, when bonds rose after the Fed announced a plan to cut back on quantitative easing.


“The three biggest volume days in the last five or six weeks have all been up days,” he said. “That’s important, and it tells you the market’s short. With these three up days — one was a Fed day, one an economic story, and one’s an allocation, ‘risk off’ story,” he said, noting yields could continue lower. The yield on the 10-year Thursday was at 2.78, its lowest since Nov. 29.


Adding to the sour mood was a sell off in emerging markets, with some impacted by the broader selloff, such as Mexico and Chile, and others reeling on their own stories, like Argentina and Brazil. Brazil was impacted by China but also negative comments from Pimco on its finances.


Argentina’s currency plummeted Thursday amid signs its central bank was running low on foreign currency reserves. Turkey’s central bank tried to prop its currency back up, and Venezuela’s benchmark 2027 bond was yielding 14.61 percent, a day after the government announced a partial currency devaluation.


“The central bank had been managing its fall, but they’re running low on dollars. The peso was down as much as 20 percent today, but now it’s down about 12 percent,” said Win Thin, senior currency strategist at Brown Brothers Harriman.


The selling could continue but Thin said it was overdone in some of the higher quality markets.


The big market washout also comes ahead of the Fed’s meeting next week, where it is widely expected to vote to cut back on its bond buying program for a second time. The Fed in December voted to cut the program to $75 billion in monthly purchases from $85 billion.


“I think this has been a factor from the very beginning. The weakness we’ve seen in the last seven or eight months, its roots were embedded in changes in Fed tapering,” said Alan Ruskin, head of G-10 currency strategy at Deutsche Bank. “The Fed is trying to tell us it’s not tightening but EM currencies, or selective currencies see it as the beginning of less accommodation. We’re still seeing the fallout.”


Ruskin said the shakeout could continue, as interest rates in some countries aren’t attractive enough for longer term investors. “If you want to really generalize, there is certainly fragility in the likes of Turkey, for example, Argentina. The other fragile five are still fragile,” he said.


Burkly said he is keeping an eye on U.S. data, and is watching the Citigroup economic surprise index, which measures the beats and misses of economic data against economists’ forecasts. It is seen as positive for stocks when the data beats forecasts, and the index is rising. Burkly said the index peaked about a week ago and looks to be rolling back down.


“Obviously that would be the worst-case scenario, the economic momentum starting to slow just as the Fed starts to ratchet things up. We do have these weather distortions in the data…we don’t’ think that’s going to turn into much though,” he said.


The selloff also comes in the first leg of an earnings season that has had its share of high profile disappointments, despite the fact that beats are handily outpacing misses.

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