/perspectives/weekly-viewpoint/a-cocktail-of-concerns-weigh-on-markets

A Cocktail of Concerns Weigh on Markets

The Dow Jones Industrial Average (Dow) fell 2.75%, the Wilshire 5000 Total Market IndexSM (Wilshire 5000SM) lost 2.67%, the Standard & Poor’s 500® Index (S&P 500) finished off...

August 04, 2014    |    By Mike Schwager

Performance for Week Ending 8/1/14:

The Dow Jones Industrial Average (Dow) fell 2.75%, the Wilshire 5000 Total Market IndexSM (Wilshire 5000SM) lost 2.67%, the Standard & Poor’s 500® Index (S&P 500) finished off 2.69% and the NASDAQ Composite Index (NASDAQ) closed down 2.18%. Sector breadth was negative as all 10 of the S&P sector groups finished lower. The Energy sector (-4.11%) led the way lower followed by Industrials (-3.63%) and Financials (-3.03%).

Index* Closing Price 8/1/2014 Percentage Change for Week Ending 8/1/2014 Year-to-Date Percentage Change Through 8/1/2014

Dow

16493.37

-2.75%

-0.50%

Wilshire 5000

19946.82

-2.67%

+3.60%

S&P 500

1925.15

-2.69%

+4.15%

NASDAQ

4352.64

-2.18%

+4.22%

*See below for Index Definitions
 

MARKET OBSERVATIONS: 7/28/14 - 8/1/14

The major market indices finished the week broadly lower. There was no specific catalyst to account for the selling pressure; instead it appeared to be a growing cocktail of concerns that finally reached a tipping point. The market has been rather complacent over the past few months despite building tensions around the globe. Last week saw an uptick in geopolitical tensions (Ukraine/Israel/Gaza), a debt default in Argentina, growing worries over the Portuguese banking system, concern over the strength of Europe’s economic recovery and the building threat of deflation, increased sanctions on Russia, and heightened fears the U.S. Federal Reserve (Fed) could tighten policy sooner than expected. While individually none of these factors were likely the root cause for the broad-based selling pressure, cumulatively when coupled with the current low liquidity environment (summer doldrums), the simmering cauldron of adverse news seemed too great for an already jittery investment crowd.

On the flipside, there were several positive developments. Oil prices fell below $100/barrel and finished the week at the lowest since early February. Earnings growth during the second quarter continues to surprise to the upside and is well ahead of expectations at the start of the reporting season. Second quarter GDP expanded by 4.0%, the ISM manufacturing Index advanced to the highest level in 3 years, and consumer confidence rose to highest point since October 2007.

Beyond the current air pocket, the broader narrative still remains supportive: 1) economic data is getting better; 2) earnings are trending at a better than expected pace; and 3) the Fed will likely remain on hold for the foreseeable future. Despite creeping higher over the past couple weeks, the market had been showing signs of fatigue. It’s also worth noting that the selling pressure last week was very orderly and volumes were relatively light.  This, in my opinion, suggests a “pause to refresh” rather than the start of a major downturn. Summer corrections during mid-term election years are common and this year will likely prove to be no different. To put the current pullback in perspective (relative to the January ‘correction’) – the S&P is off 3.2% since peaking on Thursday, July 24. The correction in January lasted approximately two weeks for a loss of 6.1%. If a similar pullback were to occur, the S&P could test the 1870 level (which would more/less coincide with the 200 day support level of 1860) – stay tuned.

Payroll Report:
On Friday the Labor Department reported that nonfarm payrolls rose by 209K, below the 230K expected by economists (although the prior two months were revised upward to show an additional 15K jobs). The unemployment rate rose to 6.2% (from 6.1%) and private payrolls gained 198K, below the 227K forecast.  Wage growth was also a touch lighter than expected, rising at a 2.0% year-over-year pace. All in all, the report was “goldilocks” in nature (not too hot, not too cold) and seemed to help ease fears of a premature rate hike by the Fed.

Fed Meeting:
Last week’s Federal Open Market Committee (FOMC) meeting came and went without any real surprises. As expected the Fed reduced their bond buying program by $10B to $25B per month and left the Fed funds rate unchanged at a range of 0%-0.25%. The after meeting statement offered subtle hints that conditions are moving closer to hitting the Fed’s dual mandate (i.e. price stability & full employment).  For example, in their June statement they noted that “Inflation has been running below the Committee’s longer-term objective…”   In the current statement they said “Inflation has moved somewhat closer to the Committee’s longer-run objective…”  On the Labor markets in June: “Labor market indicators generally showed further improvement. The unemployment rate, though lower, remains elevated.” This meeting they dropped the word ‘elevated’: “Labor market conditions improved with the unemployment rate declining further.”  While the changes seem minor, this may be a delicate ‘telegraphing’ by policymakers in the event that economic conditions continue to heat up and they are forced to move sooner than later. In other words they want investors to stay alert and not get too complacent. With that said, the Fed reiterated their plan to keep short-term rates low "for a considerable time" after its bond purchases end. All in all, the Fed appeared to be making an effort to acknowledge the stronger growth environment that has warranted cutting back on quantitative easing.

Earnings Season:
The earnings environment remains encouraging. Through Friday, 379 members of the S&P 500 have reported quarterly results with overall earnings up by 10.7%. Of the 379 companies, over 69% have beaten expectations while 20% have fallen short. The current “beat” rate is solidly above the long-term average of 63%. Revenues have also been modestly better than forecasts and forward guidance from corporate management has been encouraging. When all is said and done, profits are likely to rise 9.4% on a 4.2% gain in revenues, according to Bloomberg.

The Week Ahead:
The earnings calendar has moved past peak reporting season as 72 members of the S&P 500 are scheduled to report this week. The economic calendar will be relatively light with the focal points being June factory orders, the July non-manufacturing ISM survey, initial jobless claims, and the release of second-quarter productivity. There are no Fed speakers on the docket this week.  One other event of interest will be Thursday’s meeting of the European Central Bank. While no changes in policy are expected, investors will listen for hints of future policy moves.


Definitions

The Dow Jones Industrial Average is a price-weighted average of 30 blue-chip stocks that are generally defined as the leaders in their industry. It has been a widely followed indicator of the stock market since October 1, 1928.

Wilshire 5000 Total Market IndexSM represents the broadest index for the U.S. equity market, measuring the performance of all U.S. equity securities with readily available price data. The index is comprised of virtually every stock that: the firm’s headquarters are based in the U.S.; the stock is actively traded on a U.S. exchange; the stock has widely available pricing information (this disqualifies bulletin board or over-the-counter stocks). The index is market cap weighted, meaning that the firms with the highest market value account for a larger portion of the index.

Standard and Poor’s 500® Index is a capitalization-weighted index of 500 stocks. The index is designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.

The NASDAQ Composite Index is a broad-based capitalization-weighted index of stocks in all three NASDAQ tiers: Global Select, Global Market and Capital Market. The index was developed with a base level of 100 as of February 5, 1971.

ISM Manufacturing Index is an index based on surveys of more than 300 manufacturing firms by the Institute of Supply Management. The ISM Manufacturing Index monitors employment, production inventories, new orders and supplier deliveries. A composite diffusion index is created that monitors conditions in national manufacturing based on the data from these surveys.

Indices do not include any expenses, fees, or sales charges, which would lower performance. Indices are unmanaged and should not be considered an investment. It is not possible to invest directly in an index.

Past performance is no guarantee of future results. Indices do not include any expenses, fees, or sales charges, which would lower performance. Indices are unmanaged and should not be considered an investment. It is not possible to invest directly in an index.

The individual companies mentioned in this piece were for informational purposes only and should not be viewed as recommendations.

The comments should not be construed as a recommendation of individual holdings or market sectors, but as an illustration of broader themes. This document contains forward-looking statements about various economic trends and strategies. You are cautioned that such forward-looking statements are subject to significant business, economic and competitive uncertainties and actual results could be materially different. There are no guarantees associated with any forecast and the opinions stated here are subject to change at any time and are the opinion of the individual strategist. Information in this report does not pertain to any investment product and is not a solicitation for any product. This material has been prepared using sources of information generally believed to be reliable. No representation can be made as to its accuracy.

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