The market drubbing began with a couple of challenging sessions early in the week, and the dam broke on Friday.  Finally, the second oldest bull market in history, which had been showing signs of lethargy for a couple of weeks cracked in a way that has left even the staunchest bulls worried.

Internals

I’ve been talking and writing about the deteriorating market breadth, which is measured in several ways:

• Advancers versus decliners
• Up volume versus down volume
• New highs versus new lows

On Friday, the breadth was profoundly negative. While this has been an amazing market, this underscores the fact that the past year was more about a few stocks dominating headlines and moving the needle. 

On the NYSE

• Declining issues outpaced advancers 8 to 1
• Down volume outpaced up volume 11 to 1
• 346 stocks hit 52-week lows against only 48 hitting 52-week highs

On the NASDAQ

• Declining issues outpaced advancers 4 to 1
• Down volume outpaced up volume 2.5 to 1
• 162 stocks hit 52-week lows against only 65 hitting 52-week highs

Bond Connection

Sure, there has been investor complacency, but I think it’s the chatter and everyone regurgitating the same rationale that it is doing more damage than where yields actually are.

Right now, conventional wisdom is saying stocks are down because bond yields are higher. While there is some truth to the idea, the ten-year yield at 3% or 3.5% should be the death knell for stocks. It seems farfetched to me, in part because this economy is going to power great top and bottom line numbers (historically yields have been much higher at market peaks).

This isn’t to say the pace of higher yields shouldn’t set off alarms because it should; somehow, the narrative by Wall Street is that the stock market is destined for the dark ages because of a fat juicy 3% bond yield. I don’t buy that.

Look at the last four market crashes and where rates were and the direction they were moving:

• 1980: peak 10-year yield was over 12% and climbing
• 1987: peak 10-year yield was near 9% and climbing
• 2000: peak 10-year yield was over 6% and declining
• 2007: peak 10-year yield was 4.5% and declining

Historical Perspective

On that note, let’s put Friday’s session into perspective. The Dow off 666 points is the sixth worst single-session point declines ever, but it was only 2.5%. The other names ahead on the list were all down 7% or more:

• Sep 2008: 777 or 7.0%
• Oct 2008: 733 or 7.9%
• Sep 2001: 684 -7.1%
• Dec 2008: 679 or 7.7%
• Oct 2008:  678 or 7.3%

As we look more into the historical comparisons of this stock market rally, note that it has been 410 training days without the market pulling back 5.0% (shattering the record of 394 trading days, which occurred in 1994 and 1996). The pullback from high:

• S&P 500   4.0%
• Dow          4.1%
• NASDAQ   3.5%

2018 Rally

As for the week, which was the worst in two years for the market, the major indices are up for 2018, with all S&P sectors except the two most conservative, which are lower. Interestingly, real estate and utilities, which should have seen rotation for yield and protection continue to stumble.

 

S&P 500 Index	+5.55%
Consumer Discretionary (XLY)	+8.03%
Consumer Staples (XLP)	+1.20%
Energy (XLE)	+4.65%
Financials (XLF)	+7.56%
Health Care (XLV)	+6.59%
Industrials (XLI)	+5.18%
Materials (XLB)	+2.58%
Real Estate (XLRE)	-3.70%
Technology (XLK)	+7.13%
Utilities (XLU)	-4.63%

Fundamentals Matter

Lost in last week’s sell off was one of the most spectacular weeks ever for corporate earnings. Through February 5, half of S&P 500 companies have reported financials with astonishing results:

• 80% beat on sales with a blended growth rate of 7.5%
• 75% beat on earnings with a blended growth rate of 13.4%

Guidance has been more optimistic than usual. This is big news in a world where corporate management has sought to establish low expectations for the last two decades.

Emotions Take Over

There could be more room to the downside as a function of history. It shouldn’t be seen ominously as these periods forge steelier hands for those holding and invite fresh money into the market. Make no mistake; however, we are lurching into an emotional period for the market, where logical assessments and assumptions take a back seat to technical analysis and market psychology.

How do we proceed?

There is no need to try to catch a falling knife or to guess the bottom. The great news is that we are in the midst of earnings season, and we know names that have posted great results and strong guidance as shares were moving higher. 

Those names could be the basis of your buy list.   Keep a focus on economic data and the underlying economy because it’s just turning into a growth phase many thought was a bygone relic of the good old days.

As for value, I’m looking at transportation names.

That brings up the wildcard which is the risk of mismanagement of interest rates by the Federal Reserve. 

It’s hard to believe with so much recent history to draw from that the Jay Powell Fed will hikes rates too aggressively, but the history of the Fed decision-making is dubious at best. 

Today’s Session

Equity futures have been under pressure all night as well as this morning, but have improved with less than an hour before the open.  Key technical support points, using exponential moving averages, is one guide everyone should employ this morning. 

There are additional points that were once key resistance that must hold as key support. 

Key Support Points Exponential Moving Averages	50-day	200-day
Dow Jones Industrial Average	25,145	23,013
S&P 500	2,730	2,511
NASDAQ Composite	7,113	6,561

 

 

 

Comments

From Charles:This isn’t to say the pace of higher yields shouldn’t set off alarms because it should; somehow, the narrative by Wall Street is that the stock market is destined for the dark ages because of a fat juicy 3% bond yield. I don’t buy that. Look at the last four market crashes and where rates were and the direction they were moving: 1980: peak 10-year yield was over 12% and climbing 1987: peak 10-year yield was near 9% and climbing 2000: peak 10-year yield was over 6% and declining 2007: peak 10-year yield was 4.5% and declining What stands out in this list is that the peak 10 year yield listed declines significantly for each crash listed: 12 to 9 to 6 to 4.5%, and now it's at 3. I think the world is different now, not least because of Fed and other CBs so seriously messing up market rates with mountains of QE. So, while Charles doesn't buy that the big selloff is due to increasing bond yield, I'm not sure. Especially after the market has skyrocketed. Timothy Irving on 2/5/2018 10:06:20 AM

The market has been on a tear for years. Those of us old enough to have been burned by the financial crisis and the tech wreck cannot avoid being concerned that we are being greedy. A bit older now and closing in on retirement makes it more challenging not to consider the risk of remaining in an inflated market. 3% is not much to make but better than losing! T. Ashton on 2/5/2018 11:32:01 AM

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