By Pete Biebel, Senior Vice President

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That’s a line from the movie “Monty Python and the Holy Grail.”  It’s uttered by The Black Knight in the early stages of a sword fight. The irony is that he delivers the line shorty after King Arthur has lopped off the Knight’s entire left arm.  Last week’s losses, of between 1 ½ and 2 ½% for the major averages, may seem to be just a scratch, but the actual damage may be far more threatening.

In my recent articles, I’ve characterized the early-November rally as just a tease, likely just a short-term rebound in a longer-term downtrend.  The gains were large, but not quite large enough to be convincing.  The key indices and several key sectors were unable to climb back above their 200-day moving averages and stay there.  My theory was that a continuation of the downtrend seemed likely, and that we should expect immediate and potentially significant price declines.  Indeed, the assault came quickly.  In just over three sessions, from Monday’s open to Thursday morning’s low, the S&P 500 Index (SPX) lost 4%.  The NASDAQ Composite Index (COMP) fell about 4 ½% during that stretch.  ‘Tis but a flesh wound.

And, during that stretch, on both Tuesday and Wednesday, the averages lopped off significant early-session gains and ended the day with losses.  Back-to-back days surrendering early gains and ending in the red is not typical behavior in a bull market.  Thursday was the one positive session last week, not just because it produced net gains, but largely because steep early losses were reversed and the averages recovered a bit of the previous five days’ losses.  Rumors of decreasing trade war tension were largely responsible for improving the market’s mood.  Large rebounds in the washed-out Energy and Technology sectors were significant in that reversal.

Friday produced net gains as well, but nowhere near as large as they could have been.  While the averages hovered around breakeven around midday, several Trump tweets regarding progress in avoiding a trade war were broadcast, including “China would like to make a deal,” and “Don’t want to put China in bad position.”  The market immediately stabbed higher on the news.  But, that charge was exhausted almost as quickly as it began.  Again, the market displayed an inability to follow through on those gains.

The price of Crude Oil has had a big impact on the stock market over the past several weeks.  Crude topped-out a little over $76 in early-October but skidded steadily to last Tuesday’s low below $56 a barrel.  As Crude percolated higher back in September, the S&P index of Energy Sector stocks rose to near its highest level in more than three years.  Then, as Crude tanked in October, that sector fell 18% in just four weeks.  Crude rebounded a bit late last week to end Friday just below $60; that helped Energy sector stocks recover some off their recent losses, climbing about 3% late-week to stop the bleeding and reduce the net loss for the week to a mere 1%.

The only two U.S. equity sectors that had a worse week than Energy were the two sectors that had been the market’s leaders over the past couple years.  The S&P Technology Sector fell back to near its October low on the early week slide, then bounced back late in the week to limit the damage to just over a 2% decline.  The S&P Consumer Discretionary Sector has now had six consecutive daily losses, ending Friday with a total decline just this week of 3.36%.  Neither sector appears to be in a position from which it could resume a market leadership role anytime soon.

Almost lost behind the volatility in the stock market has been the increasing weakness in the high-yield bond/credit markets.  Indices of the high-yield (or junk) bond market have been trending lower all year, but that decline has steepened over the past two months.  Those indices have slumped about 2 ½ to 3% since early-October.  That may not sound like much, but it’s pushed them to their lowest levels in more than two years.  Worse is that acceleration lower came as the benchmark Ten-Year Treasury Notes were seeing their prices appreciate.  In other words, weakness in junk bonds did not come as a result of higher interest rates; that weakness was solely the result of growing concerns about the potential for an economic slowdown.  If economic growth slows, companies with poorer credit quality might be the ones most likely to get into financial trouble.  Keep an eye on the junk bond market over the next few weeks; if it continues to sell-off in the absence of higher interest rates, it would likely be a bad omen for the stock market.

SPX ended last week a little below 2740.  Its 200-day moving average is a little above 2760.  Last week’s low was down around 2670.  Sustained trading above 2760 would suggest that the holiday rally had begun and could inspire a rush to jump back onboard.  Based on last week’s action, I’d give that scenario just a 15 to 20% chance of unfolding.  The greater likelihood (or risk) is that the averages drop back toward last week’s low.  If SPX takes out 2670, then the rate of decline could accelerate and challenge the October lows (2600-ish) quickly.

The first couple days of this week have the potential to be very exciting.  If the market is going to make any significant move back toward the October lows, then it would most likely come on Monday and/or Tuesday.  Holiday weeks like this one typically have an upward bias.  If the Black Knight can make it to Wednesday without losing another arm, the market will have a fighting chance.

Retail companies are the most prominent among the short list of earnings announcements this short week.  The economic calendar is very light.  The most likely catalyst for any sizeable market move might be more news/rumors regarding an increase/decrease in the threat of a trade war.

Date Report Previous Consensus
Monday 11/19/2018 Housing Market Index 68 68
Tuesday 11/20/2018 Housing Starts 1.201mm  1.240mm
Wednesday 11/21/2018 Initial Jobless Claims 216K 213K
Durable Goods Orders, M/M +0.8%  -2.4%
Durable Goods Orders, ex-Transportation, M/M +0.1%  +0.4%
Consumer Sentiment 98.3  98.3
Existing Home Sales, SAAR 5.150mm  5.200mm
Thursday 11/22/2018 Happy Thanksgiving Day to You and Yours
Friday 11/23/2018 NYSE Early Close

 
Links to previously published commentaries can be found at benjaminfedwards.com/Company News/Blog/Market.