Last week, US equity markets finally began to price in several variables that we have touched on in recent notes. The risk-off trade led to the worst one-week performance for all three major market indices since the week of January 3. On Friday all three major US equity market indices lost meaningful ground on elevated volume. The Nasdaq led the way lower, losing 196.29 points, or 2.50%. The S&P 500 lost 54.17 points, or 1.90% and the Dow industrials lost 460.19 points, or 1.77%. All three indices also closed at or near session lows to close out the trading week.
That weak intraday price action coupled with a dramatic 20.91% jump in the CBOE Volatility Index (VIX) on Friday was a result of the first yield curve inversion since 2007, weaker-than-expected US, European, and Japanese manufacturing data for March, and expectations for a pending earnings slowdown with the arrival of Q1 earnings season in coming weeks.
Since the first week of March, I have been highlighting my expectations for equity market weakness in the closing weeks of Q1. In part, my call was predicated on the technical setup of the market, as outlined in the morning note. It was also a result of my expectation that equity markets would need to give back some Q1 gains before Q1 earnings season got underway next month. Additionally, as the economic data we have covered has indicated, many signs of economic slowing have become more commonplace in recent weeks – particularly globally.
Last week’s equity market price action lacked conviction and leaves markets susceptible to some quarter-end weakness in coming weeks if a trade deal is not struck between the United States and China.
With concerns continuing to gather on the horizon, discretion and cover will increasingly be rewarded. Risk will be punished – particularly as we close out Q1. The rollover that took shape last week is likely to see some follow through this week, though it will likely be mild.
The one variable that I have been holding out to reverse what I have seen as a pending pullback in equity prices at quarter-end was a resolution to the trade talks between the US and China. That has yet to materialize.
Away from the rollover in equity prices that manifested last week – on Friday in particular – the most important takeaway for the week was the inversion of the three-month Treasury bills over the 10-year notes for the first time since the months leading up to the great financial crisis. That in and of itself is enormously important. It speaks to the sense that risk-off has taken hold in the minds of investors after months of prevarication. Risk-off doesn’t flip on a dime. In fact, if the global economic narrative is any indication, we will very likely see additional weakness in equity prices in the coming weeks, as well as additional yield curve inversion.
Last week’s economic data did little to instill investor confidence, though with several exceptions it was not disappointing. Housing Market Index for March came in at 62 versus Econoday consensus of 63. Factory orders for January were 0.1% – matching December’s results. The EIA Petroleum Status report for the week ending 3/15 did reflect draws across all three verticals – effectively triggering a run-up in WTI crude prices to $59.04/bbl, crude oil (-9.6M bbl), gasoline (-4.6M bbl), and distillates (-4.1M bbl).
The FOMC meeting that dominated the headlines for the week delivered on several themes that, though not entirely unexpected, did manage to unsettle the tenuous trade that held until Wednesday afternoon. Of particular importance for investors was the lowering of growth forecasts for the US economy for 2019, and concern over Brexit. Markets were not expecting a move on rates, and didn’t get one.
Weekly jobless claims for the week ending 3/16 were a near cycle-low 221k. Leading US Indicators for February were 0.2%, versus January’s revised 0.0% reading. An unexpected bright spot on the economic calendar came from existing home sales for February. At 5.510M, the monthly total was well ahead of January’s revised reading of 4.930M and above Econoday consensus of 5.100M. The month-over-month change was a gain of 11.8%.
This week, investors will be focused on regional manufacturing data. Today the Chicago Fed National Activity Index is released. The three-month moving average is 0.16 – including January’s 0.43% contraction. Econoday consensus for February is 0.10. We also receive the Dallas Fed Mfg. Survey today. The Richmond Fed Manufacturing Index is due out tomorrow. The Kansas City Fed Manufacturing Index is due out Thursday. Given the significance of the manufacturing narrative in the recent overall growth of the economy, this week’s manufacturing-centric calendar will be very closely watched.
Housing starts for February are due out tomorrow. Econoday consensus starts – level – SAAR is 1.201M, versus January’s 1.230M. On Wednesday, US international trade figures for January and the weekly EIA Petroleum Status report are due out. Given last week’s runup in crude oil prices – due in large part to inventories draws as framed by the EIA Petroleum Status Report – any additional tightening in supply will drive WTI crude oil through the significant $60/bbl. level.
We round out the week with the final Q4 GDP reading (c. 2.2%) on Thursday, weekly jobless claims figure for the week ending 3/23, and new home sales for February.
As we close out Q1 this week, I expect to see further equity market weakness – across the board, additional yield curve inversion, and additional volatility as measured by the VIX. With indications of a slowing global economy increasingly apparent, lowered growth prospects for the US economy by the Fed, and expectations for underwhelming year-over-year earnings results on the horizon, the path of least resistance is lower for US equity prices. The degree to which we trade lower in the near term is in no small part due to the outcome of the trade talks between the US and China.
Flickr photo: ChiralJohn
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