- U.S. indexes close lower, but above session lows
- Nasdaq, chips lead declines; banks advance
- Tech weakest major S&P sector; energy, financials gain
- Dollar, gold, crude all green, bitcoin edges down
- U.S. 10-Year Treasury yield ~1.78%
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WALL STREET CONTORTS ITSELF AGAIN (1605 EST/2105 GMT)
For the second session in a row Wall Street attempted a dramatic turnaround in the last hours of trading. But while it appeared that many investors bet their shirts on buying the dip for the second day in a row that bet didn’t seem to work as well on Tuesday.
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After falling as much as 3.2% earlier in the session, Nasdaq Composite (.IXIC) closed down 2.3% after pushing heavily for a comeback that started a little before 1300 EST and pointing higher until the last hour of trading when it started losing steam again.
The S&P 500 (.SPX) closed down 1.2% after falling as much as 2.8% earlier in the day. The Dow Industrial Average (.DJI), meanwhile turned positive shortly after 1400 but couldn’t hold its gains and closed down 0.2%, though a far cry from its earlier 2.4% drop.
In sectors, energy rallied sharply (.SPNY) to close up nearly 4%, and financials (.SPSY) the only other gainer, ended up about 0.5%. The growth champions however were the biggest laggards with tech (.SPLRCT) and communications services (.SPLRCL) finishing down more than 2% and consumer discretionary losing 1.8% in the end.
Anticipation of Wednesday’s FOMC meeting was looming large with Anu Gaggar, global investment strategist for Commonwealth Financial Network writing this:
“It almost feels like the market is behaving a little incoherently, not knowing which way to go – go down because the Fed is tightening or go up because the Fed is finally acting to rein in inflation” and is loading ammunition while economic growth remains strong.
And Gaggar added, “The bottom-line is that this recent volatility is proof that the market can still behave normally. A sharp drawdown is a phenomenon that occurs in the normal course of business for well-functioning markets. Just because that hasn’t happened much recently doesn’t mean that it is not the norm anymore.”
Here is your closing snapshot:
THE FED: DIFFERENT THIS TIME (1358 EST/1858 GMT)
With the Federal Open Market Committee meeting in focus this week, Barclays strategist Maneesh Deshpande examines the potential impact of the current Fed tightening cycle vs history.
His “Too Early to Buy the Dip” headline may not be popular with the droves of investors who did just that on Monday.
And while dip buying has rewarded investors in the last two years, Reuters also reported separately on how bargain hunters face numerous uncertainties including how aggressively the Fed will need to tighten policy, a potential war between Russia and Ukraine, and disappointing corporate earnings. read more
While the start of a hike cycle historically hasn’t derailed equity rallies, Deshpande argues that “downside risks from monetary tightening are higher vs history,” that this time it really could be different.
With valuations still at elevated levels and with post-COVID earnings growth driven by a fiscal stimulus fueled binge in goods consumption, he sees possible headwinds. While pain so far has been “localized to high valuation stocks,” the strategist also sees signs of a broader risk-off market brewing.
Using pre-pandemic valuation comps as a gauge, Deshpande still sees ~8% downside potential for the S&P with more pain than that for higher valuation stocks.
The strategist says aggregate or median levels “hide the fact that there are a significant number of stocks with very elevated levels of valuations” with the 75th percentile P/E spiking even higher than dot-com bubble levels.
Also, with the Fed due to taper, hike and initiate quantitative tightening all this year, Deshpande points out that these three stages of tightening were spread over five years during the previous cycle.
Historically equities rally by 10% before the start a hiking cycle and slow to an average ~6% rally in the subsequent year with only two episodes showing substantially negative returns, 1965 and 1987.
So the Fed has to work “a tricky balance” between not falling behind the curve in curbing inflation and everything else. With China following a zero tolerance policy regarding COVID, this could renew supply chain stress, which would further increase inflation. Also, a reversion in goods consumption could be a headwind for corporate earnings.
“In terms of the upside scenarios, the key catalyst would be if the Fed softens its stance in the meeting this week, although we think that is unlikely,” he wrote.
BANKING ON BANKS IN 2022 (1233 EST/1733 GMT)
One of 2020’s biggest laggards, the financial sector (.SPSY), had a bright 2021. With a more than 30% gain, it notched its second-best annual rise of the post-global financial crisis era.
In her latest market commentary this week, Saira Malik, chief investment officer, who leads Nuveen’s equities investment council, says that government stimulus, household savings rates, consumer and commercial credit quality, and a resilient economic backdrop have provided fertile ground for the financial sector, especially for the banking industry.
Recently, however, Malik notes that a handful of the largest U.S. financial institutions reported fourth-quarter earnings which included 2022 guidance that “revealed higher-than-anticipated costs and expectations of further expense inflation, driven primarily by rising wages.”
While these results have added to early 2022 equity market volatility, Nuveen remains “fairly constructive” on bank fundamentals. Malik says that higher interest rates, improving loan growth and abundant excess capital should act as catalysts for further gains this year.
Regarding prospects for higher rates, as markets prepare for Fed hikes in 2022, Nuveen estimates that an increase of 100 basis points across the yield curve could potentially boost industry earnings per share by 15%-20%, on average, once these higher rates are fully realized in banks’ earnings.
Malik adds that although bank valuations, on both a P/E and P/B basis, appear a bit elevated vs their own history, she thinks they remain attractive compared to the broader market.
“Banks have historically traded at a median discount of roughly 24% to the S&P 500 as a whole (based on next 12 months’ P/E), a margin that currently stands at 34% — still a an intriguing investment opportunity from a relative value perspective.”
Year-to-date, the SPSY is off around 2.8% vs a drop of more than 9% for the S&P 500 index (.SPX). On Tuesday the financial index, down 0.7% was also outperforming the benchmark S&P, down 2%. But most major banks were falling.
EUROPE PULLS OFF A ‘DAMAGE-CONTROL’ SESSION (1210 EST/1710 GMT)
The pan-European STOXX 600 pulled off a 0.7% gain at the close of a choppy session which is far from making up for its 3.8% fall yesterday.
The jury is still out on whether this is a dead-cat bounce but it’s quite rare for European stocks to finish the day in positive territory when the S&P 500 and the Nasdaq are losing well over 2%.
Sure, European investors completely missed out on Wall Street’s spectacular reversal on Monday, but all in all, they’re keeping their edge on their U.S. peers.
The STOXX 600 is down 5.8% since the beginning of the year, which compares favorably with the current 9.8% drop of the S&P.
Still, the tension between the West and Russia over Ukraine is bound to hit bourses on the continent harder than on the other side of the Atlantic and the stress around the pace of the Fed’s tightening cycle is palpable even across the euro zone.
One area where European stocks are suffering more than their U.S. peers is in the tech space.
The European index is now just a whisker from bear-market territory with a 19.5% fall from November highs.
The S&P 500 tech sector (.SPLRCT) by comparison is down around 15% from its December peak.
SYSTEMATIC FUNDS YET TO REALLY JOIN THE SELLING PARTY (1136 EST/1636 GMT)
For all the red in the stock market these last few sessions, the selling from systematic strategies such as volatility control funds, has been relatively small given the violent price action, BNP Paribas derivatives strategists said in a note on Tuesday.
“When we have previously seen a spot market correction of similar degree, we have typically seen significant selling flow from systematic strategies,” BNP strategists led by Greg Boutle, said.
“We estimate selling flows associated with the recent de-risking have been much lower in recent weeks vs. previous equity market selloffs,” he said.
BNP estimates, volatility control funds have shed about $13 billion in U.S. equities over the past week and expects another $5 bln of selling from these types of funds on Tuesday.
Vol control funds often take buying and selling signals from realized or historical volatility levels. Despite the Cboe Volatility index (.VIX) jumping to a more than 1 year high S&P 500 (.SPX) 1-month volatility at about 15 is 5 points shy of its late-December peak. On Tuesday the VIX was last up 2.78 points at 32.68.
“This has been influenced by the higher starting level for realized volatility heading into the de-risking, as well as the trending nature of the selloff,” the strategists wrote.
The gulf between SPX 30-day realized and implied volatility stands at 11.5 points, the widest since October 2020.
So long as realized volatility stays in the mid-to-high teens, the strategists expect little additional selling pressure from systematic strategies, they said.
(Saqib Iqbal Ahmed)
CONSUMER CONFIDENCE, CASE-SHILLER: CONSUMERS GROW COOL, HOME PRICES STAY HOT (1045 EST/1545 GMT)
A data diptych unveiled on Tuesday showed that the ongoing effects of supply challenges – inflation, affordability, rising interest rates – are dampening consumer spirits yet failing to put out the fire of a red-hot housing market.
The American consumer dimmed slightly at the dawn of 2022.
The Conference Board’s Consumer Confidence index (USCONC=ECI) shed a modest 1.4 points this month to 113.8, a rosier print than the 111.8 analysts expected. read more
The usual suspects – inflation and pandemic nerves – were behind the headline dip.
“Concerns about inflation declined for the second straight month, but remain elevated after hitting a 13-year high in November 2021,” writes Lynn Franco, senior director of economic indicators at The Conference Board. “Concerns about the pandemic increased slightly, amid the ongoing Omicron surge. Looking ahead, both confidence and consumer spending may continue to be challenged by rising prices and the ongoing pandemic.”
While spending intentions were strong and the ‘present situation’ measure improved, this was offset by the ‘expectations’ component’s decline, widening the gap between the two – extending a worrying trend which, historically, presages recession.
As seen in the graphic below, that wide disparity is often a harbinger of economic contraction:
Separately, monthly home price growth unexpectedly gained momentum in November and annual home price inflation came in hotter than consensus.
The S&P Case-Shiller 20-city composite (USSHPQ=ECI) posted a monthly reading of 1.2%, 30 basis points higher than the mean projection and an acceleration from October’s upwardly revised 1% gain.
Year-on-year, the composite gained 18.3% a slight deceleration from the prior month’s 18.5% but hotter than the 18.0% analysts anticipated.
“We continue to see very strong growth at the city level,” writes Craig Lazzara, managing director at S&P DJI. “All 20 cities saw price increases in the year ended November 2021, and prices in 19 cities are at their all-time highs.”
But while mortgage interest rates, rising in tandem with U.S. Treasury yields, could eventually curb demand, they could prompt would-be homebuyers to jump on the low-rates train before it leaves the station, in spite of soaring home prices.
Rubeela Farooqi, chief U.S. economist at High Frequency Economics says “a desire to lock in mortgage rates as the Fed tapers/tightens could provide a boost to sales in the near term.”
But that won’t last forever.
“We expect some slowing in home price inflation in the months ahead as higher price and mortgage rates erode affordability,” says Nancy Vanden Houten, lead economist at Oxford Economics.
Every city in the composite posted double-digit annual home price growth. Phoenix was once again the star, its prices up 32.2%, with Tampa and Miami capturing silver and bronze.
The graphic below shows annual growth of the 20-city composite against the National Homebuilders Association gauge of potential homebuyer traffic.
Wall Street resumed its January decline, which was unexpectedly interrupted by Monday’s freak, late-session rally.
All three major U.S. stock indexes were sharply lower as Powell & Co sit down for their two-day FOMC policy meeting.
RED TIDE QUICKLY RETURNS (1005 EST/1505 GMT)
Wall Street’s three major indexes are lower on Tuesday with technology stocks leading the declines as investors wait for the outcome of the Federal Reserve’s policy meeting and keep their eyes on the latest news from Russian/ Ukrainian tensions.
NATO said on Monday it was putting forces on standby, while the U.S. Department of Defense in Washington said about 8,500 American troops were put on heightened alert and were awaiting orders to deploy to the region, should Russia invade Ukraine. read more
Much like Monday morning’s action, the outperformers are more defensive groups such as utilities (.SPLRCU) and real estate (.SPLRCR), while the biggest losers include growth sectors such as technology (.SPLRCT) and communication services (.SPLRCL) as well as cyclical sectors.
Of course investors may also be wary going into Tuesday’s session after Monday’s dramatic turnaround when the S&P 500 (.SPX) was on correction watch and the small-cap Russell 2000 (.RUT) was on bear watch, but both ended higher with the help of aggressive dip buyers.
A few explanations for Monday’s wild swings include U.S. stocks becoming too oversold as measured by the VIX (.VIX), a modest shift in Fed Funds futures with the odds of just 3 rate hikes this year moving slightly higher, according to DataTrek co-founder Nicholas Colas who also wrote that retail investors were “out in force.”
With the Federal Reserve meeting this week, with geopolitical risks remaining and with multiples still high, Colas says that despite Monday’s impressive turnaround he is “cautious near term on U.S./global stocks,” but bullish for the medium and long term.
Here is your early Tuesday trading snapshot:
FRENCH BANKS: AIMING FOR BOOK VALUE (0925 EST/1425 GMT)
Jefferies just released a pretty bullish deep dive into the three big French listed banks and according to its analysts, there’s a “massive re-rating potential” at hand.
“We think the market under-estimates the RoTE (return on tangible equity) potential of French banks in a 2024 horizon”, they write, adding that the country’s lenders are set to enjoy a sharp reduction in payments to the European Union’s Single Resolution Fund.
French banks are currently trading well below price to tangible book value (PTBV) with Societe Generale at 0.5, BNP Paribas at 0.7 and Credit Agricole at 0.9.
According to Jefferies’ analysts, that could evolve for the better in the coming years.
“We expect French banks’ shares will significantly re-rate towards TBV (and above) once investors realize that French banks can sustainably achieve a double-digit RoTE”, they conclude.
Among the other factors which might help boost their shares, are returns to shareholders seen at 7 to 8% through dividends and buybacks.
Momentum is also expected to be favorable for French banking stocks as they prepare to unveil strategic updates this year.
DESPITE NASDAQ’S MONDAY REVERSAL, INTERNALS STILL REELING (0900 EST/1400 GMT)
The Nasdaq Composite (.IXIC) staged a stunning reversal on Monday. The tech-heavy index erased a near-5% collapse to close up around 0.7% on the day.
On the plus side, a number of measures of Nasdaq internal strength may have reached, or be near to, washed-out levels. That said, they still have work to do to prove that they have stabilized.
The Nasdaq McClellan Summation, which is based on advancing and declining issues, improved off its low of the day, but it still closed down for an eighth-straight session, at -5,987. It has yet to break its March 2020 trough, at -6,207, but it remains below its 10-day moving average. read more
The Nasdaq New High/New Low (NH/NL) index ended at 12.6%, or just a tick above its 12.5% December 6, 2021 trough:
It now remains to be seen if this is a sufficiently washed-out reading for this measure, but it still has room to fall to reach previous major lows.
Of note, it bottomed on March 23, 2020 with the Nasdaq’s pandemic-crash low, at 1.2%. It hit a low of 1.6% just two trading days (tds) after the market’s December 24, 2018 trough.
In early 2016, the NH/NL index bottomed on January 21 at 2.4%. It then converged bullishly over the next 15 tds into the Composite’s final low.
In 2011, this measure fell to as low as 3.5% on October 4, or one trading day after the Composite’s October 3 bottom.
Its lowest reading ever, using Refinitiv data back to mid-1995, occurred during the Financial Crisis. On November 24, 2008, it fell to 0.5%. It established a slightly higher trough at 0.9% with the Nasdaq’s major low on March 9, 2009.
Meanwhile, amid heightened volatility, the Nasdaq looks to kick off Tuesday’s session on the back foot again. CME e-mini Nasdaq 100 futures are down around 2% in premarket trade. read more
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Terence Gabriel is a Reuters market analyst. The views expressed are his own
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