Stock Market Votes With Its Feet
The sell-off demonstrates rapidly shifting opinions and priorities.
By John Authers
Bloomberg
December 17, 2018, 7:16 PM EST
Unhappy Holidays!
In the long run, in the famous formulation of Benjamin Graham, markets are a weighing machine. They respond to the overwhelming weight of evidence coming to them about economic and corporate fundamentals. In the short run, however, he said that they were a “voting machine” — they register the swiftly made priorities of investors as they shift their opinions and try to understand what is going on around them.
That analogy is invaluable today. The S&P 500 Index, by far the world’s most widely tracked, sank to its lowest close and lowest intraday level since October of last year amid much angst. It was a significant decline and illustrated the power of the market as a voting machine. And Americans in particular should all be aware, after the acrimony of last month’s midterm elections, that voting machines can be faulty. That in turn opens up the whole process to allegations of nefarious outside manipulation. So, without making any suggestion that the market today has worked as a weighing machine, can we use the voting machine analogy to explain what happened?
On balance, I think we probably can. Monday’s sell-off was scary and suggested an acute underlying lack of confidence. But it was more about technical landmarks and the specific stresses affecting money managers than about a considered response to the outside world. That does not, of course, mean that the lower value for stocks, and the lower confidence that comes in its wake, will not have real-world effects, but for the time being the market is — I think — behaving like a hyperactive voting machine.
One exhibit is to note the dreadful performance of “high beta” as a strategy. High-beta stocks have a strong relationship to the market. They will tend to outperform in a good market, and so a “Santa Claus Rally,” when it happens, will often involve investors piling into high-beta names to boost their performance by the end of the year. This time around, there is an evident desire to get away from anything market sensitive at the end of the year — a critical point at which mutual funds’ returns will be judged.
In looking for a thread to identify which stocks did best during today’s sell-off and which did worse, note that the selling seems to have been heaviest in any names that were still showing a gain for the year. In other words, portfolio managers looked around to see whether they still had profits to take and took them. The S&P 500 real estate sector was showing a profit for the year until today and should have benefited from speculation that rates would not be rising as much as previously thought. Instead, it dipped into negative territory. Health care also endured a negative day.
The two stocks that contributed most to the fall in the main indexes were Microsoft and Amazon, which have recently been regarded as the two most convenient ways to buy exposure to the growth in cloud computing. Between them, their market cap had grown by more than $600 billion for the year at one point — and they have now lost more than half of that gain. Again, this looks like managers jumping to hold on to decent profits while they still existed.
Beyond the stock market, the fall in the price of oil — which might often be taken as a positive for stocks — brought inflation expectations down to a level lower than they were on Election Day. The falling oil price could actually be bad for the U.S. economy if it crimps investment in the fracking revolution. Meanwhile, the fall in inflation expectations, which looks overdone, feeds into fears about growth. The oil price and inflation breakevens often move in tandem.
Evidence that this was a generalized race away from the risk is surprisingly hard to find. The dollar weakened slightly. Its rise over the second half of the year has unquestionably created a lot of pressure on the global financial system that was not there before, but there was no great movement today. And the classic risk-off investment, gold, is also doing nothing special. If investors are scared of turmoil or inflation, they are not showing it. To be clear, ample reasons exist for worry about the international outlook, but in terms of what happened today, there was no news and no reaction on the markets that would be most affected, that might cause the stock market to drop to its lowest in more than a year.
Meanwhile, the evidence of pressure from portfolio managers is clear-cut. This chart, by my Bloomberg News colleague Mike Regan, shows that money fund assets have reached their highest since 2010. This appears to be money that is being parked by fund managers. Unlike passive funds and exchange-traded funds, they have the ability to move to cash, which should help their performance a little as the end of the year approaches. It looks as if that is what they are doing.
But lest anyone thinks this could be the fuel for a big rally, like the one we saw in 2009, Regan also points out that this is unlikely to have a big impact on share prices if it is reinvested.
So what happened today? Investors were unnerved by the sell-off they had already seen and the proximity of some crucial technical landmarks — the lowest close for the year and the lowest intraday level. The bounce after the intraday low suggests that many were waiting for this moment to buy. The proximity of the thin trading volume that we will see over the Christmas period and at the end of the year took away any more incentive to try taking a big risk at this stage. And the fact that this is all playing out in December unnerved everyone. Sell-offs like this happen in September and October with alarming regularity; a December sell-off is a rarity. With little experience of how to deal with such a thing, investors took fright.
Having said all this, these technical factors could not have had such a powerful effect without deep underlying unease. That will be put to the test in the new year, but the final Federal Reserve meeting of 2018 now gives one big opportunity to change or reinforce the negative narratives out there. The market has voted with its feet in the last few weeks; we must await the Fed meeting, and then the new year, to find out if it is weighed in the balance and found wanting.
By John Authers
Bloomberg
December 17, 2018, 7:16 PM EST
Unhappy Holidays!
In the long run, in the famous formulation of Benjamin Graham, markets are a weighing machine. They respond to the overwhelming weight of evidence coming to them about economic and corporate fundamentals. In the short run, however, he said that they were a “voting machine” — they register the swiftly made priorities of investors as they shift their opinions and try to understand what is going on around them.
That analogy is invaluable today. The S&P 500 Index, by far the world’s most widely tracked, sank to its lowest close and lowest intraday level since October of last year amid much angst. It was a significant decline and illustrated the power of the market as a voting machine. And Americans in particular should all be aware, after the acrimony of last month’s midterm elections, that voting machines can be faulty. That in turn opens up the whole process to allegations of nefarious outside manipulation. So, without making any suggestion that the market today has worked as a weighing machine, can we use the voting machine analogy to explain what happened?
On balance, I think we probably can. Monday’s sell-off was scary and suggested an acute underlying lack of confidence. But it was more about technical landmarks and the specific stresses affecting money managers than about a considered response to the outside world. That does not, of course, mean that the lower value for stocks, and the lower confidence that comes in its wake, will not have real-world effects, but for the time being the market is — I think — behaving like a hyperactive voting machine.
One exhibit is to note the dreadful performance of “high beta” as a strategy. High-beta stocks have a strong relationship to the market. They will tend to outperform in a good market, and so a “Santa Claus Rally,” when it happens, will often involve investors piling into high-beta names to boost their performance by the end of the year. This time around, there is an evident desire to get away from anything market sensitive at the end of the year — a critical point at which mutual funds’ returns will be judged.
In looking for a thread to identify which stocks did best during today’s sell-off and which did worse, note that the selling seems to have been heaviest in any names that were still showing a gain for the year. In other words, portfolio managers looked around to see whether they still had profits to take and took them. The S&P 500 real estate sector was showing a profit for the year until today and should have benefited from speculation that rates would not be rising as much as previously thought. Instead, it dipped into negative territory. Health care also endured a negative day.
The two stocks that contributed most to the fall in the main indexes were Microsoft and Amazon, which have recently been regarded as the two most convenient ways to buy exposure to the growth in cloud computing. Between them, their market cap had grown by more than $600 billion for the year at one point — and they have now lost more than half of that gain. Again, this looks like managers jumping to hold on to decent profits while they still existed.
Beyond the stock market, the fall in the price of oil — which might often be taken as a positive for stocks — brought inflation expectations down to a level lower than they were on Election Day. The falling oil price could actually be bad for the U.S. economy if it crimps investment in the fracking revolution. Meanwhile, the fall in inflation expectations, which looks overdone, feeds into fears about growth. The oil price and inflation breakevens often move in tandem.
Evidence that this was a generalized race away from the risk is surprisingly hard to find. The dollar weakened slightly. Its rise over the second half of the year has unquestionably created a lot of pressure on the global financial system that was not there before, but there was no great movement today. And the classic risk-off investment, gold, is also doing nothing special. If investors are scared of turmoil or inflation, they are not showing it. To be clear, ample reasons exist for worry about the international outlook, but in terms of what happened today, there was no news and no reaction on the markets that would be most affected, that might cause the stock market to drop to its lowest in more than a year.
Meanwhile, the evidence of pressure from portfolio managers is clear-cut. This chart, by my Bloomberg News colleague Mike Regan, shows that money fund assets have reached their highest since 2010. This appears to be money that is being parked by fund managers. Unlike passive funds and exchange-traded funds, they have the ability to move to cash, which should help their performance a little as the end of the year approaches. It looks as if that is what they are doing.
But lest anyone thinks this could be the fuel for a big rally, like the one we saw in 2009, Regan also points out that this is unlikely to have a big impact on share prices if it is reinvested.
So what happened today? Investors were unnerved by the sell-off they had already seen and the proximity of some crucial technical landmarks — the lowest close for the year and the lowest intraday level. The bounce after the intraday low suggests that many were waiting for this moment to buy. The proximity of the thin trading volume that we will see over the Christmas period and at the end of the year took away any more incentive to try taking a big risk at this stage. And the fact that this is all playing out in December unnerved everyone. Sell-offs like this happen in September and October with alarming regularity; a December sell-off is a rarity. With little experience of how to deal with such a thing, investors took fright.
Having said all this, these technical factors could not have had such a powerful effect without deep underlying unease. That will be put to the test in the new year, but the final Federal Reserve meeting of 2018 now gives one big opportunity to change or reinforce the negative narratives out there. The market has voted with its feet in the last few weeks; we must await the Fed meeting, and then the new year, to find out if it is weighed in the balance and found wanting.
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