Stocks in Price Discovery Mode
Although stocks have enjoyed a bit of a bounce from the emotional lows seen on August 8th, the S&P 500 closed Friday -13.2% below its July highs – and the futures market suggests that we could see some additional selling today. But the good news is that coming into this morning’s action; the S&P is up +4.8% from the bottom. As such, it would appear that stocks are in what is called a period of “price discovery” where prices move back and forth in search of the appropriate level for the current environment.
As long-time readers know, the goal of my meandering morning missives is to identify the drivers behind the current price action in the market. Oftentimes this simply involves lining up the appropriate news story with a corresponding move in the indices. However, it appears that stocks are struggling more with the macro picture at the present time than the day-to-day news. And while the minute-to-minute action may indeed be driven by the boys and their computer toys (i.e. HFT), it is the big-picture issues that hold the key to the intermediate- and long-term trends right now.
So let’s review. While I run the risk of restating the obvious, the current downtrends seen on the weekly and monthly charts are being sponsored by (a) fears that the U.S. economy is either currently in, or about to enter, a recession and (b) the fear that the European debt situation is about to expand into a global credit crisis.
On the first score, the most recent economic data shows that the U.S. economy is not in a recession at the present time and the economists I trust put the odds of a recession at less than 50% at the present time. In my humble opinion, it is this fact that has kept the market above its August lows.
However, I continue to struggle with the concept of the market’s current levels relative to the macro expectations going forward. You see, a year ago we went through almost the exact same scenario in the markets. And while Ben Bernanke’s cavalry did indeed save the day in September 2010, I’m not so sure that a replay is in order or that a “twist” is going to do the trick. No, at the end of the day I fear that lower prices may ultimately lie ahead.
Here’s my thinking. Last summer the economy was growing at a fairly healthy clip and stocks fell on the “fear” of what might happen. Today, the economy is growing at a surprisingly disappointing pace and unless the data improves, GDP could continue to flat-line. And of course, this is to say nothing of the current pathetic level of job growth. Thus, with the economy in worse shape than last year and no real fiscal stimulus likely to be approved (remember, the children in D.C. could barely agree on a deal to keep the country from defaulting on its debt, so I’m not so sure they will be able to agree on the best way to spend another big batch of borrowed dollars), shouldn’t the S&P be trading closer to last summer’s levels?
I know, I know, stocks trade on earnings and the earnings are indeed better than they were a year ago. But with the outlook for economic growth barely above the zero-line right now, it isn’t too hard to argue that the outlook for earnings growth (as well as the year-over-year comparisons) might begin to sour a bit going forward.
So there you have it. As the markets continue to react to each piece of news, I believe that traders are ultimately trying to answer the age-old question of “At what price value?” And unless investors can be assured that the economy is going to improve, that job growth is going to pick up at some point soon, and that the problems in Europe are going to be worked out, I’m afraid that “value” might be a little lower this time around.
But then again, I am also fully aware that Ms. Market doesn’t give a hoot about what I think. As such, I will continue to monitor our market models and attempt to keep the portfolios I run “in line” with the prevailing conditions. And for the time being at least, this means erring on the side of caution.
Turning to this morning… Stock futures have improved from the depths seen Monday but are still pointing to a lower open as Wall Street will likely play catch up to the big declines seen in the European bourses Monday. However, with talk of emergency measures coming out of Europe and hope for more stimulus from the Fed, trading is likely to remain volatile.
On the Economic front… We don’t have any major economic news to review before the bell, but we will get the all-important ISM Non-manufacturing (i.e. services sector) report at 10:00 am eastern.
David Moenning
Editor: The Daily Decision
