Stocks fell sharply yesterday posting their biggest one-day loss since January. Concerns that President Trump will enact higher tariffs on Chinese goods sent prices lower even as Chinese trade negotiators arrived in Washington in an effort to get trade negotiations back on track. Today, traders will be looking for any sign of progress. Few expect a deal to suddenly erupt out of today’s negotiations, but hints that China will be more willing to allow better enforcement of intellectual property rights or allow foreign countries greater entry into its country may keep the bears on the sidelines.
This is a good time to remember my two-day rule. Monday’s market rally in the afternoon erased most early morning losses. That recovery was quickly reversed yesterday. A late afternoon rally did soften the blow a bit but anyone would have to consider yesterday Day One within the context of my rule. A steep decline (let’s call it 150 Dow points or more) today that ends badly would be Day Two and set off an alarm that it is now time to play defense for the first time since Christmas Eve. Within bull or bear rallies there are often single days like yesterday that interrupt the progress. But unless momentum persists for at least two consecutive sessions, such one day declines are simply noise and are not impediments to an ongoing rally or decline.
Other than hints about trade negotiations, there isn’t likely to be a lot of news today that will move the needle economically. I wouldn’t be surprised if the White House rolled out its economic optimists, like advisor Larry Kudlow, to try and calm markets. Conversely, it might also roll out one of the trade hawks like Peter Navarro or Commerce Secretary Wilbur Ross to reinforce the message that the U.S. means business and won’t sign any deal without tough enforcement provisions. The President knows that Senate conservatives won’t support a deal that lacks proper enforcement. Thus, his stance to ratchet up the pressure at the 11th hour makes a great deal of sense.
Mr. Trump has also suggested that barring progress “shortly” he will institute 25% tariffs on all the other goods China exports to the U.S. In order to do so, he must start the clock running on a comment period. He is likely to do just that if tariffs are increased on goods subject to existing tariffs on Friday. Markets hate tariffs, probably more than justified. In many ways, after a gain of over 20% in just four months, stocks are ready for a pause and some retracement anyway. The Dow Transports, a leading indicator, have not tracked to new highs like the S&P 500 or the NASDAQ Composite, a sign that the rally is running its course. Thus, while a decent rally today will put any thoughts of a correction on hold, at least for another day or two, the odds of some follow through are rising.
There is other news to consider, although much of it won’t move the economic needle short term. First, Iran is sounding tough threatening to move toward restarting its nuclear program as U.S. actions to restrict its exports of oil take hold. Iran-backed militants in Gaza over the past week have escalated tensions with Israel firing hundreds of rockets into that country. In one way, it was a warning to the U.S. that our actions will be retaliated. In a separate piece of news, hackers stole $40 billion of bitcoin from an Asian exchange. The hackers weren’t identified, but speculation centers on North Korea where dozens of state employed hackers work all day attempting to steal money to compensate for the losses incurred as a result of worldwide sanctions. Any bank or any exchange can be a target at any time. In a world where cyber warfare is quickly replacing or supplementing guns and rockets, both North Korea and Iran are at or near the top of the list. China and Russia, of course, are active hackers but if they steal money, there are repercussions given their place in world commerce markets. Thus, they are after information, trade secrets, patents and influence more than the direct theft of cash. Indeed, all this ties back to the trade negotiations ongoing with China. It’s a brave new world and any company, large or small, without adequate defenses is a potential target.
The other big news expected to come this week is the IPO of Uber, the big ride sharing company. It is expected to be priced tomorrow night with first trading expected on Friday. The success or failure of that offering might set the table for IPOs in weeks or months to come. The sloppy reception for Lyft, the other big ride sharing company, serves as a warning for Uber and its underwriters not to be too greedy as it prices the offering. Lyft reported earnings (I should say losses) about in line with expectations last evening and management spoke bravely about a very optimistic future that might or might not come to pass. Both Uber and Lyft are likely to lose a lot of money in the years before autonomous vehicles hit the road. Waymo and Lyft will start a 10 vehicle trial in Phoenix next year, a critical first step. Needless to say, there are a lot of optimists and a lot of skeptics out there.
Today’s market action is important short term. Stocks are fully valued here and ripe for at least a small correction of 0-5%. As we learned in early 2018, however, a correction can reach 10% in a matter of just a few days if algorithmic traders capture markets. When they start to dominate and all want to sell at the same time we get those air pockets that could cause a 2-4% loss in just one day. That isn’t a prediction; it’s a reflection on history. These computerized trades need volatility to engage. Yesterday, the VIX crossed 20, a sign that volatility is returning. Longer term, nothing has changed. A 5-10% decline will create bargains once again, and invite bulls back in at some point. If yesterday was simply a one-day decline in an ongoing bull run, traders will be complacent buyers again soon. Today’s action will tell us a lot.
Today, basketball star Kemba Walker is 29.
James M. Meyer, CFA 610-260-2220