Though it may seem much worse, the S&P 500 (SPY, DIA) is down only a few percentage points from the all-time highs set in May this year. We continue to remind equity investors that the US stock markets have roughly tripled from the March 2009 panic bottom only six short years ago, so further declines in the form of profit taking may still be ahead. However, the throngs of investors looking to “get back to even” before selling may account for more overhead supply than we care to admit. Returns have been so wonderful in yesteryears’ upward-sloping bull market that even flat equity market performance may become unbearable going forward, adding to yet more selling pressure.
The swoon in late August may be just the beginning of a definitive change in market direction that unfortunately happens to be supported by a number of factors: global economic malaise, major economies in recession, still-stretched valuations, deteriorating technicals, weakening market sentiment, and the onset of contractionary monetary policy that may send certain dividend-yielders into a tailspin. That some market onlookers continue to look at historical data for comfort may be the most tell-tale sign that the markets have entered a period of fundamental deterioration. Third-quarter reports may not be bad, but we expect company outlooks to cast a storm cloud over the market during earnings season.
There’s little doubt in our mind that a hike in the federal funds rate is coming. The Federal Reserve, in our view, cares more about the state of the equity markets at this moment in history than all other economic data points combined, but it doesn’t want the markets to know as much. After a delay in hiking rates last week didn’t send the markets springing back to new highs, the Fed will now try to prop up the markets with the confidence that comes with the conviction of a rate hike, and if the first one works, then we’ll see two this year. Fed Chair Janet Yellen just made the case September 24 that it is time for ZIRP (zero interest rate policy) to end in a 40-page speech at the University of Massachusetts. The lecture, in our opinion, however, only hides the fallacy that, because continued rate-hike delays didn’t help the stock market, then the opposite must be true. Hiking rates will only accelerate the pain being felt in other parts of the world, not the least of which are recessions in Brazil and Canada and ongoing economic malaise in China.
But history is good. In fact, times were great in America during the second quarter, with the Bureau of Economic Analysis upwardly revising the pace of economic expansion in the US:
Real gross domestic product — the value of the goods and services produced by the nation’s economy less the value of the goods and services used up in production, adjusted for price changes — increased at an annual rate of 3.9 percent in the second quarter of 2015, according to the “third” estimate released by the Bureau of Economic Analysis. In the first quarter, real GDP increased 0.6 percent.
We liked the news, but too bad future stock market returns aren’t driven by backward-looking historical economic data. They never have been, and they never will be.
Nike’s (NKE) fiscal first-quarter results, ended August 31, 2015, however, were dazzling and it showed that consumer spending in China hasn’t fallen off a cliff, at least not yet. Nike’s futures orders for Greater China, or orders that are scheduled for delivery from September 2015 through January 2016, advanced an impressive 22% during the period and 27% on a currency-neutral basis, the strongest out of any geographic division. Such news, however, hasn’t stopped the sell-off in Chinese e-commerce giant Alibaba (BABA), whose shares have become detached from fundamentals, breaking below the $60 mark, more than 10% below its initial offering price and far below the cost basis in the Best Ideas Newsletter portfolio.
There was some good news this week, but the threat of the “Asian Contagion of 2015/16” or the “Latin American Currency Crisis of 2015/2016” cannot be ignored. The tipping point may be the Fed, itself. Should a rate hike attract more assets to the US in light of global economic malaise, it could unleash a currency crisis in Latin American economies that would only compound the dynamics of the already-spreading economic weakness from China. Now is not the time to be blind to your personal investing goals and preferences. Indexers may be in for some further sledding, as risk-taking continues to take a back seat to capital preservation. Did you see performance of the iShares Nasdaq Biotechnology ETF (IBB) this week?