From a 40%-plus year-over-year in late Dec 2013, the Russell 2000 small-caps index has just passed a crucial milestone to trade negative year-over-year. This is the first time since mid-2012 that small-caps have been under-water year-over-year and what saved them then was the promise of QE4EVA...
While we already documented the crash in Japanese stocks earlier, the biggest market development overnight is the plunge in crude, with both Brent and WTI plunging, the latter sliding under $90 for the first time in 17 months, extending yesterday's selloff after Saudi Aramco cut Arab Light OSP in Asia to 2008 levels. Brent drops to lowest since June 2012. This also confirms that the global slowdown whose can is kicked every so often in a new bout of money printing, is arriving fast. That, and the imminent crackdown on today's Hong Kong protest will likely be the biggest stories of the day, even as the spread of Ebola to the US is sure to keep everhone on edge.
Well that escalated quickly. It appears "bad-news-is-bad-news" once again as ADP was the only saving grace and was just not bad enough to be good (or good enough to comfort escape-velocity-believers). For the 3rd day in a row, stocks saw an opening dump, European close pump, afternoon slump - this time led lower by Trannies (dragged lower by Ebola-scared airlines) down 2.5% (worst in 8 months). The Dow is rapidly approaching unch for the year. Treasury yields collapsed today (2Y -4bps, 30Y -9bps) with 7Y -13bps on the week. 10Y Yield closed at 2.43% with its biggest day move in 13 months. Gold rose modestly as silver and WTI crude plunged once again post-EU close. The USDdollar flatlined amid the carnage in bonds, stocks, and commodities. Lots of potential catalysts for today's weakness but desk chatter about Goldman questioning US growth was notable (as they closed out their growth basket). The Russell 2000 'closed' in 10% correction.
The small-cap Russell 2000 is down over 10% from its July highs (down 6.2% year-to-date) as VIX is back over 17. Treasury yields continue to collapse (down 8-9bps today alone) with 10Y trading with a 2.40% handle (and 3Y under 1% again). All other major equity indices are also red from the Russell 2000 peak in July and have broken various key technical levels today - S&P below 100DMA, Dow Industrials below 100DMA, Dow Transports At 100DMA, and Nasdaq broken well below its 50DMA. Russell is back at levels first seen a year ago.
The Russell 2000 just broke crucial primary support from the 2009 lows to become the first of the major indices to do so...
Junk bond investors suffered their biggest quarterly loss since 2011, losing 1.7% in Q3 pushing yields up to one-year highs (despite Treasury yield compression). Managers, knowing full well the underlying liquidity to handle any further selling is not there are out en masse explaining that "high-yield should bounce back in the fourth quarter," relying on the fact that 'historical' defaults are still low and the economy is recovering (as if that's not priced in already). The worst hit segment of the junk market is CCCs and below - at 22-month lows - as Bernanke and Yellen forced investors ever further along the risk spectrum for yield. Of course, equity markets (Russell 2000 aside) have ignored much of this decline until recently, but the plunge in leveraged loan issuance suggests all that cheap-buy-back-funding is rapidly disappearing (even for the best credits and biggest names).
Yesterday's late-day weakness in stocks is continuing as US equities open this morning led by a collapse in Dow Transports and further weakness in Russell 2000. Treasury yields are also plunging with 10Y at 2.435% (back below the oh-so-important Tepper "end of the bond bull" levels). High-yield credit markets are extremely volatile this morning. USD weakness is helping commodities rally with gold and silver outperforming. VIX just hit 17.5
Despite the ubiquitous v-shaped recovery in stocks from the US open to EU close (decoupling entirely from bonds), stocks slumped into the end of the quarter leaving the S&P and Dow barely positive for Q3 and Russell 2000 down 7.9% - its worst quarter since Q2 2011 (and -5.2% year-to-date). Treasury yields flip-flopped around in a 4-5bps range with a late-day ramp (suggesting liquidations cough PIMCO cough) leaving 30Y -1bps on the week. The USDollar suged higher in the European session and traded lower in the US session. The bigger news on the day was the carnage in commodities that appeared to occur around the European close (desk chatter of commodity fund liquidations). Silver and WTI Crude were monkey-hammered, gold and copper dropped to down 1% on the week. VIX pumped and dumped again but closed above 16. Stocks closed very weak with Russell tumbling 1.5% on the day to not "off the lows."
There is nothing like the release of secret tape recordings to clarify an inconclusive debate. Actually, what the tapes really show is that the Fed’s latest policy contraption - macro-prudential regulation through a financial stability committee - is just a useless exercise in CYA. Macro-pru is an impossible delusion that should not be taken seriously be sensible adults. It is not, as Janet Yellen insists, a supplementary tool to contain and remediate the unintended consequence - that is, excessive financial speculation - of the Fed’s primary drive to achieve full employment and fill the GDP bathtub to the very brim of its potential. Instead, rampant speculation, excessive leverage, phony liquidity and massive financial instability are the only real result of current Fed policy.
Heavy volume and volatile price action early in stocks and high-yield credit markets subsided later in the day as despite several big stocks in the red, the indices jammed higher in the last hour desparate to get positive (on terrible volume) but failed. Treasury yields fell 3-4bps early on and stuck near the lows of the day (ignoring equity's exuberance). High-yield credit rallied back off early spike wides at 380bps (with desks noting heavy demand for protection) but remains worse than stocks. VIX tested above 17 and crashed back below 15.5. The USD ended the day unchanged (AUD weakness notable) but gold and silver slipped lower with oil (back over $93) and copper up on the day. Camera-on-a-stick smashed over 11% higher to $91.50 as the 41% float short continues to get squeezed out.
The key question now is “Can the U.S./global economy handle a meaningful downturn in financial asset prices?” The short answer is that it may not have a choice. The Federal Reserve has done what it can to juice the American economy and has the balance sheet to prove it. Central banks, for all their power, do not control long term capital allocation or corporate hiring practices. Fed Funds have been below 2% for six years. If the U.S. economy can’t continue to grow in 2015 as the Federal Reserve inches rates higher, there are clearly larger issues at play. And those private sector problems will need private sector solutions.
The Nasdaq, Russell 2000, and Dow Transports have been rescued in their high-beta manner all the way back to green by an initial USDJPY ramp to ignite some momentum "off the lows". Treasuries and credit refuse to play along and even USDJPY has decoupled as stocks surged on a VIX-slamming (from over 17 to 15.50) ramp to unch. Safe-haven buying of camera-on-a-stick continues (+8% today).
This week's 35bps rise in high-yield credit spreads (or ~10%) is the worst since at least June of last year and anxiety spread through other asset-classes appropriately as cheap-buyback-funding and liquidity concerns weighed on all equities - most aggressively small caps. The Russell 2000 is down around 4% from FOMC (and for the year) even with today's buying-panic this afternoon trying to rescue yesterday's losses. Much of today's moves were thanks to The Bill Gross Effect - Treasury short-end sold (2Y-5Y +5bps, 30Y unch), corporate bond spreads jumped wider (HY +20bps, IG +4bps), and European bonds (and German stocks) lurched lower. Markets recovered some of the early move but 2Y closed at 2014 yield highs. The USD closed 1% higher for the 11th week in a row to June 2010 highs. WTI crude close +1.5% on the week, gold unchanged, and copper and silver lower. VIX jumped 22% on the week, closing above 14.5.
With over half of all the stocks in the Russell 2000 and Nasdaq already in a bear market, US equity market indices are becoming increasingly driven by a highly concentrated set of stocks that lack any relationship to macro factors. As BofA shows in the charts below, participation in the record-high exuberance in stocks is waning... and waning fast... But, the biggest concern, BofA fears, is a new low for net free credit at -$182 billion - the major risk is if the market drops and triggers margin calls, investors do not have cash and would be forced to sell stocks or get cash from other sources to meet the margin calls. This would exacerbate an equity market sell-off.
First it was the foreign exchange markets, then commodities, followed by fixed income markets. Now it’s the equity markets. Wherever we look, volatility has been creeping higher. To some extent, this is not surprising. At the end of the US Federal Reserve’s first round of quantitative easing, and at the end of QE2, the markets wobbled. So with QE3 now winding to a close (and with the European Central Bank (ECB) still behind the curve), a period of uncertainty and frazzled nerves should probably have been expected.