By Pete Biebel, Senior Vice President

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Thankfully, last week only had 3 ½ trading sessions.  The Dow Jones Industrial Average (DJIA) lost ground on all four days and was off 4.44% for the week.  Both the NASDAQ Composite Index (COMP) and the S&P 500 Index (SPX) were down on three of the four days; their losses for the week were 4.26% and 3.79% respectively.  It was a lousy performance in a typically bullish holiday week.

Thankfully, I think we did a pretty good job of warning investors of the potential for significant declines.  Signs of trouble began showing up a few months ago.  Our 9/10/2018 article, “It Ain’t Getting’ Any Greener,” was published about a week before SPX inched up to what is still its high for the year.  COMP made what is still its high for the year about a week earlier.  That article compared the recent action in COMP and SPX to how they behaved just before the January market top.  It also theorized that the late-August run-up in the averages may have been a false breakout.  It warned that, if SPX fell below 2850, then it could mean that the recent highs were important intermediate-term tops.

A month later, our 10/8/2018 article, “Lifting the Veil,” warned that the new highs in DJIA in the prior week were most likely a misleading illusion based on the weaker behavior of the broader averages and of Tech stocks and small-cap stocks in particular.  In the prior week, SPX had fallen below the 2900 level.  Our commentaries in the two prior weeks had cautioned that breaking below 2886 on SPX would be a cause for concern.  On Friday, 10/5/2018, SPX had dipped below 2886 to about 2870 in the previous session but rebounded to close just a whisker below 2886.  The 10/8/2018 article concluded that falling below that 2870 level, “would greatly increase the likelihood that the recent highs were, in fact, an intermediate-term top.”  Two days later, SPX took out 2870 and ended the day with more than a 3% loss.

On the day before Election Day, our article, “It’s Always Tease, Tease, Tease,” advised that the early-November rebound hadn’t yet appeared to be anything more than a bounce in a continuing downtrend.  SPX would need to rally beyond 2820 to be convincing.  The article also suggested that investors who were uncomfortable with the potential for a test of the February/April lows, might want to use the current bounce as an opportunity to lighten positions or establish hedges.  The rebound topped-out two days later at around 2815 on SPX.

The following week, the evidence was indicating that the rebound rally had run its course.  That article included an unusually specific and ultimately accurate conjecture: “I also think that we’ll get a more definitive answer very soon.  If the market is going to see lower lows in the next month or two, then we’re likely to see relatively immediate and potentially violent declines.”  Over the next three sessions COMP and SPX lost 4.5% and 4% respectively.

Coming into the Thanksgiving Day holiday week, the averages had rebounded a bit, but last week’s article warned that, “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.”  Over the first two sessions of the week, SPX fell nearly 4%; COMP plunged nearly 5% and took out its October low.  Worse, on both Wednesday and Friday last week, days when the bullish holiday bias should have provided some relief, the major averages gave up significant early-session advances to end those days with very little if any gain.  While SPX did not fall below its October intraday low, it ended Friday just below 2633, its lowest closing level in 6 ½ months.  A thankless week indeed.

All the S&P U.S equity sectors had losses last week.  Two relatively defensive sectors, Utilities and Real Estate, had losses of a little less than 1 ½%.  All the others were considerably worse.  Two S&P sectors ended last week below their October closing lows.  One was the Energy sector; not much of a surprise in light of the steep decline in the price of Crude Oil over the past few weeks.  That sector plunged more than 5% last week and has now lost nearly 11% over the past five weeks.  The other was the Technology sector.  Yup, the sector that had been the most conspicuous leader over much of the market’s multi-year rally is now making lower lows.  It was the worst performing U.S equity sector last week with a loss of more than 6%.  It ended last week about 16% below its October high.

That Technology sector performance and the recent crumbling of many of the former internet glamour stocks are excellent examples of what has been occurring in the overall market.  Those companies are not suddenly worth 20% or 30% less because of any fundamental development at the corporate level.  The decreases in value are more the result of a change in opinion and a change in momentum.  It was as if everyone suddenly realized that the emperor was naked.

As those stocks were climbing, momentum buyers continued to buy the stocks irrespective of value simply because the stocks’ prices showed strong upward momentum.  That always works until it doesn’t.  And, technical traders had no reason to sell as long the share prices held above moving averages and avoided making lower lows.  Fundamental analysts found plenty of reasons to justify the soaring values.  The stocks were priced for perfection, but conditions were less than perfect.  One by one those swollen stocks began to ebb.  A bad news headline, perhaps a disappointing earnings report, an SEC investigation or a CEO’s appearance before Congress was all it took to reverse the tide.  When the upward momentum washed-out, the momentum buyers disappeared, and the trend-following buyers became trend-following sellers irrespective of value.

One fundamental factor is threatening to become a more significant negative influence on the stock market.  Last week I wrote about the increasing weakness in the high-yield bond/credit markets.  Prices of those assets had been declining at a steepening rate even as Treasury Note and Bond prices were climbing.  Junk bonds had another bad week last week.  One measure of that market slumped to its lowest level in seven months.  If that trend continues, it won’t be good for stocks.

The good news in all that is that many stocks are becoming attractive values as their prices fall.  The current negative momentum in the overall market suggests that there should probably be no rush to buy, but this might be a good time to at least begin working on a shopping list.

The 2600 level seems to be the next key mile-marker for SPX.  That’s roughly the level of the October intraday low.  It’s also roughly the level of the lows back in April and May.  If the market succumbs to follow-through weakness, that 2600 level should provide at least temporary support.  Sustained trading below that level could spark an acceleration lower to a test of the February low near 2533.  That currently seems to be the most likely scenario.

One potential future development, for which we all might be thankful, could be a week with a significantly lower low that reverses and finishes with a net gain.  Such a scenario in the next week or two could mark the beginning of a Santa Claus rally.

This week brings five full trading sessions and a full economic report calendar.  Wednesday’s GDP data and Thursday’s release of the Fed meeting minutes seem to be the key items on the calendar.  Still the most powerful catalyst for market movement will likely be a substantial increase or decrease in the threat of a trade war.

Date Report Previous Consensus
Monday 11/26/2018 Chicago Fed National Activity Index +0.17 +0.20
Chicago Fed Manufacturing Survey 29.4 28.6
Tuesday 11/27/2018 S&P Case-Shiller Home Price Index +0.1% +0.3%
FHFA Home Price Index, M/M +0.3% +0.3%
Consumer Confidence 137.9 136.9
Wednesday 11/28/2018 GDP, Q/Q, SAAR 3.5% 3.5%
International Trade in Goods, Trade Deficit $76.0B $76.7B
Wholesale Inventories, M/M +0.3% +0.4%
New Home Sales, SAAR 553K 575K
Richmond Fed Manufacturing Index 15 15
Thursday 11/29/2018 Initial Jobless Claims  224K 218K
Personal Income & Outlays, Income, M/M +0.2% +0.4%
Personal Income & Outlays, Spending, M/M +0.4% +0.4%
Pending Home Sales Index, M/M +0.5% +0.5%
FOMC Meeting Minutes
Friday 11/30/2018 Chicago PMI 58.4 58.0

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