Breathe… Strategically

Breathe… strategically.  Stocks traded down yesterday as investors were reminded that COVID-19 could have business impacts.  A Fed official threw water on the prospect of emergency rate cuts.

N O T E W O R T H Y

• Take my lead.  Of the many economic indicators, a few stand out as long time favorites on Wall Street. The Conference Board, which publishes the Leading Economic Index, has been around since 1916 and revered for the index (referred to by Wall Streeters as LEI) as well as its Consumer Confidence indicator.  The LEI tracks 10 economic factors which are believed to be “leading”.  That is to say that their direction can possibly predict changes in economic growth, with the emphasis on the word predict.  The Conference Board tracks these factors and bundles them into an index which is released monthly.  If you were to look at the index historically, you would find it peaking in early 2006 and declining through December 2007 which was the start of the great recession.  The index subsequently dropped significantly throughout the financial crisis hitting a low in March 2009, three months prior to the end of the recession.  This illustrates that LEI as a predictor may have some merit… at least historically.  Since the last recession ended the index has climbed significantly only pausing and moving sideways from mid-2015 through the first quarter of 2016. Remember that time period for stocks?  It was tumultuous, to say the least. Since then the index surged until 2018 and then largely moved sideways.  It peaked last summer and moved down through December, leaving watchers wondering if it was predicting economic calamity… until yesterday, when the Conference Board released its index for January that showed a better-than-expected +0.8% jump. Looking at the components of the index we find notable changes in Jobless Claims (down), Building Permits (up… quite a bit – see yesterday’s note), and Average Consumer Expectations (down).  Building permits, lower unemployment, advancing stocks, and factory orders offset the negative of lower consumer sentiment.  Good news… for January… before the Coronavirus really hit. Another component to watch carefully is the consumer confidence number… hopefully that slip is just a blip.
• The other tigers.  The trade war along with the latest Coronavirus outbreak has caused many around the world to re-focus on Asia as a vital contributor to the global economy.  For much of the past 2 years, we have focused quite a bit on China, as it is the second largest economy behind the US.  As the trade war escalated in 2019, effects of the trade spat were just starting to be felt around the world, even prompting the Federal Reserve to lower interest rates.  A signed Phase One trade deal brought new optimism that the standoff would soon end.  The late-January Coronavirus outbreak caused a nearly complete shuttering of Chinese manufacturing and travel.  This was the first time many were able to observe the direct impact that China has on global supply chains and the global consumer economy.  Examples are the stoppage of European auto production lines lacking Chinese-made components and Apple’s revelation of diminished revenues from China.  That is probably old news to you by now, but some newer developments have been creeping into the news cycle that bear further focus. This past week, Japan announced a rise in Coronavirus cases and has been struggling to deal with the still mostly-quarantined Diamond Princess docked in its port.  Also this week, South Korea announced a small surge in its reported cases of the virus.  To put things in perspective, the cases reported in Japan and South Korea are eclipsed by the cases in China.  It is unknown if the surge outside China will continue, but it is important to understand the risks.  Japan is the third largest economy in the world and South Korea is number 12, just behind Russia.  Japan’s economy has been struggling quite a bit as a result of China’s struggle with the outbreak.  Japan and South Korea are the third and fourth largest trading partners with China, behind the US and Hong Kong.  Both of them import more than the US making them vulnerable to a Chinese economic slowdown. Should the virus advance in those countries additional risks will certainly emerge. South Korea is the second largest producer of semiconductors (critical for all things handheld, smart, and electronic) globally, and Japan ties the EU for third place.  Semiconductor stocks typically lead the tech sector up… and down and they have been surging lately. Yesterday, the semiconductor sector fell by -1.84%, which is by no means a precipitous drop, but it shows that some traders are paying attention to the news.

THE MARKETS

Stocks slipped yesterday on renewed worries about the spread of the COVID-19 virus outside China.  The S&P500 sold off by -0.38%, the Dow Jones Industrial Average dropped by -0.44%, the Russell 2000 advanced by +0.21%, and the NASDAQ Composite Index slid by -0.67%. Bonds advanced and 10-year treasury yields fell by -5 basis points to 1.51%.

NXT UP

– Markit Manufacturing PMI is expected to come in at 51.5, slightly lower than the last reading of 51.9.

– Existing Home Sales are expected to have fallen by -1.8% compared to last month’s growth of +3.6%.

– Fed officials Kaplan, Brainard, Bostic, Clarida, and Mester will all speak today.  Yesterday’s admission in a CNBC interview by Richard Clarida that the Fed is not likely to lower rates soon impacted markets.

– Still more earnings next week along with plenty of important economic releases including the critical Consumer Confidence number I mentioned above, so please check back on Monday for details.

daily chartbook 2020-02-21