The First Phase Of The Pandemic Market Recovery Is Probably Over (Technically Speaking For 9/28)


Let’s start where we usually do on Mondays: last week’s fund flows from ETF.com:

The SPY had a huge outflow of $6.8 billion, more than reversing the inflows from the last two weeks. The IWM (Russell 2000) also lost a large amount of cash. But traders are buying the QQQ’s dip. Finally, there was a large move into the long-bond — a clear safety play.Tech was the big loser, losing $1.35 billion last week. It’s brethren communication services was more fortunate, only seeing a $145 billion outflow. Financials are also losing money. Investors are probably seeing a very poor 3Q20 on the horizon for the banking industry and acting accordingly. Interestingly, consumer staples and health care (two defensive sectors) also had a net outflow. Only four sectors saw inflows. Overall, this is a bearish table.

Is the recovery running out of steam? Last week, a chorus of Federal Reserve presidents gave speeches that uniformly called for additional fiscal stimulus (one writer called it a “chorus”). None gave a rosy assessment of the current economic state. Chicago Fed President Evans doesn’t think the economy will return to growth until 2022; Cleveland Fed President Mester said, “We’re in a deep hole;” Boston Fed President Rosengren was less than optimistic about future growth prospects. The labor market — which is the most important coincidental indicator — is in horrible shape, as shown in these two charts:The 4-week moving average of initial unemployment claims is still above the highest level from all recessions of the last 50 years. The last year of data for the 4-week moving average is drifting lower. But at the current pace of decline, it will take a long time to return to more normal levels. The BLS releases the latest employment report on Friday.

The Fed is now targeting an average 2% rate of inflation. Scott Grannis notes this has been the average rate of inflation during the past 18 years:

We have been living in a 2% inflation world for the past 18 years. Sometimes that fact gets obscured by the sheer volatility of year-over-year inflation, which has ranged from -2.1% to 5.6% in the past two decades. Super-volatile oil prices are largely to blame for this; having ranged from $19 to $140 per barrel over this same period. Chart #1 helps illustrate this. The blue line is the total CPI, whereas the red line excludes energy prices. The Personal Consumption Deflator, on the other hand, has been running a bit over 1.5% for the past two decades; it’s fairly typical for the CPI to register more inflation than the PCE deflator, since the deflator is more responsive to shifts in consumer preferences (consumers, being generally smart and thrifty, shy away from high-priced items, preferring instead cheaper substitutes).

Here’s his chart #1:

Low inflation has been one of the most talked-about topics in the last 10+ years.

Today, let’s take a look at a few key charts from outside the US. The reason is simple: global economies are increasingly inter-linked. That means global equity markets tend to act in concert.

All Asia less Japan — like other indexes — has risen from its Spring low and moved 3.2 points higher than January’s 76.15 level. Prices consolidated in late August and early September. Notice the large volume spike at the beginning of the consolidation, probably representing a buying climax. Prices have broken support while also falling below the 10, 20, and 50-dy EMA.The broad European ETF has a similar pattern — a rise from pandemic lows that, in this case, didn’t reattain previous levels but did come close. This ETF’s recent consolidation started at the beginning of August during which momentum declined. Prices have broken support on higher volume and are now below all the shorter EMAs.

The emerging markets ETF follows the same pattern as well.

It’s important to note that the trend breaks that started the recent corrections aren’t “Katy bar the door” sell-offs. Instead, they are disciplined. I think the following has happened:

  1. Most major governments have enacted fiscal policies and global central banks have loosened monetary policy. Markets — which are a forward indicator — rallied in anticipation of recovery.
  2. Economic data from the last few months shows that, in general, economies are at least back on their feet. Please see the latest batch of Markit Economic’s PMI data.
  3. Now, however, a new reality is taking hold. The quick rebound (which is as much statistically based as real) is over. The next round of economic recovery will be exceedingly harder. It will take longer to materialize. As a result, traders are taking some profits off the table and are waiting for the next round of data.

Assuming all of this is correct, the 4Q20 will probably be a period of reevaluation as investors re-think their economic and investment strategies for 2021.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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