Jul 14, 2015 - Here's what happened in the stock/bond markets last week

Stock Market Analysis

What a wild ride the markets experienced this week. International intrigue, especially in Greece and China, created breath-taking declines and dizzying gains in U.S. stocks; sometimes in the same day. Despite the volatility, for the week the S&P 500 ended essentially unchanged. Smaller stocks, like the Russell 2000 did slightly better and advanced 0.3%.

From a sector perspective the best performers belonged to Non-Cyclical and Utility stocks. This is perhaps a nod to defensive strategies during an uncertain time. The biggest losses came from Basic Material and Energy stocks. With the CRB Commodity Index down 2.8% for the week it follows that stocks relying on commodities might suffer as well.

Greece was a major factor moving stocks last week. Sadly, financial crisis is nothing new for Greece. The current default makes the seventh the country has experienced since 1832.

Headlines show how palpable the fear is: “Greece is the fear factor...” (Neuberger Berman), “The country is in the midst of one of the most acute financial crises seen anywhere in the world in years. It is running out of time...” (Associated Press) and “Greece Enters Chaos...” (Investor’s Business Daily). Headlines such as these go a long way to increasing uncertainty among investors and fears of a debacle in the stock market.

Regarding Greece’s influence, our research is pointing to a different path for U.S. stock investors. Among our most accurate indicators are those related to sentiment. Extremes in negative sentiment appear to go with rising stock markets. And here the news is favorable for U.S. stocks. A recent headline from Bloomberg: “Everyone Hates U.S. Stocks with Sentiment worst since 2001.” (March 2015) Also: a Merrill Lynch research report “...Wall Street’s bearishness is still more extreme than at the market lows of March 2009.”

Perhaps of bigger concern is full-blown bear market out of China. While Greece’s financial calamity is in the billions of dollars the China decline has wiped out $3.25 trillion of wealth. It is simply another order of magnitude. In just one month’s time their market is down 24%.

The rout in Chinese stocks is so bad the government there has been taking extraordinary steps to prop it up. Some of their moves include:

• A surprise rate cut in June
• No new IPOs (as this could add to the overall supply of stocks and put downward pressure on stock prices)
• According to CNBC the Chinese have now HALTED trading on roughly half the companies on their major exchanges (to "protect” those stocks)
• They have banned major shareholders (those owning 5% or more of the company) from selling shares for 6 months
• Possible arrests for those trying to short-sell the market
• AND, perhaps most amazingly, they have banned the phrases “Equity Disaster” and “Rescue to Market” from being uttered.

Will this help? Doubtful. The Chinese economy has been very poor as of late and seen some of their worst GDP numbers in years. Remember, China has been accused of “creative math” that inflates their GDP numbers above what reality dictates. For that reason we look for other ancillary data. We find the Baltic Dry Index (shipping costs) are among their lowest levels in decades. This suggests worldwide economies (and China in particular) are not in a hurry to ship items and suggests sluggishness. Another sign is to follow Copper (which has many industrial applications and China utilizes quite a bit). Copper prices are near their lowest levels in at least three years.

Looking at our domestic markets; the picture, for now, is surprisingly good. Pessimism runs high and provides a “wall of worry” for contrarian investors to climb. We also note our leading indicators remain in a bullish configuration. Certainly the international events bare close evaluation, but we continue to look for opportunities; especially in U.S. bargain stocks.

David W. James, CFA

Bond Market Analysis

Bond yields, much like the stock market, took major swings higher and lower only to end the week about where they began. The 2, 10 and 30-Year Treasury finally ended with higher yields but only to the tune of one to two basis points.

Inflation remains an important consideration for bond investors. For this reason they must be happy to note the continued weakness in commodities. For the week, oil in particular fell with prices declining from almost $57 a barrel to under $53.

Likewise, some economic data remains sluggish, especially on the international front. We find, for example, the Baltic Dry Index which measures global shipping costs to be near its lowest levels in decades.

Another group worth following are those individuals making $100,000 or more. Often, they are in tune with the movements of the economy. As of late they have become slightly more pessimistic; favorable for bonds.

There are some positives for the economy. These are things that typically cause bonds to under deliver on total returns. Housing is showing signs of rebounding and with housing traffic numbers being robust the number of starts and sales can remain robust. Similarly, the number of jobs that are hard to get has declined significantly.

Overall, our leading intermediate indicators remain slightly favorable for bonds. Obviously, we are not in a position like 2014’s “Year of the Bond” that we called for. Still, given the international intrigue facing the world markets it continues to make sense to own some high quality bonds of moderate maturities.

David W. James, CFA