The market is in its toughest position in recent memory. Numerous headwinds, none of which are easy to resolve, are stacked against it. Wit that in mind, banks are starting to publish their doom and gloom outlooks for 2019. Nomura has identified a number of “grey swans” (not black) which could topple the market next year. Some of the most interesting risks they identified included a European debt crisis sparked by Italy, oil plunging to $20 per barrel, the end of populism, and an “inflation sonic boom”.
FINSUM: To be honest, we think these are all very unlikely. What is much more likely is a recession accompanied by a trade war.
Investors looking for signs of trouble have no shortage to examine. However, one that might have escaped notice is that small caps are on the brink of a full blown bear market. The Russell 2000 has fallen a whopping 17% since its all-time high close on August 31st. The S&P 500, for comparison, is off 10%.
FINSUM: This is really interesting because it doesn’t make much sense. Both the trade war and the economic situation are more favorable to small caps than their larger peers, yet they are falling more sharply.
Just a handful of days ago, the US-China trade situation looked to be improving. Trump and Xi reportedly had a breakthrough meeting and China even went as far as to deliberately make a positive public statement in an effort to prop up US markets. However, things have worsened rapidly. First, the US arrested the CFO of Chinese giant Huawei, which angered Beijing, and now the US is close to issuing a travel warning after China detained a Canadian diplomat. The detention is part of an effort to compel Canada not to extradite the Huawei CFO to the US.
FINSUM: We went from public display of détente to a very tense diplomatic situation. The outlook for the trade war, which will be a reflection of all the other issues, looks bleak at the moment.
If financial shares are any indicator of the coming stock market environment, asset prices look set for a long rough patch. According to Morgan Stanley, financial shares are suffering as “The carefree days of rising rates and pristine credit quality could be coming to an end”. The bank’s research team continued, “We cannot ignore the growing risk of a bear credit market next year preceding a recession as well as the negative impact of weaker economic growth”.
FINSUM: Banks stocks are trading like the economy is headed towards a bear market, and we can’t help but think it may not be a bad call.
The market has been very bearish lately, with last week seeing the worst declines for the S&P 500 since march. The market fell 4.6% last week. This may seem like just another bout of volatility, one in a series we have had this Fall. However, the market’s fear gauge, the VIX, suggests that this selloff is different. The VIX just recently hit levels close to during October’s rout, but what is different this time is that it has sustained its momentum in a way that hasn’t happened since 2016. “This shows that unlike October, investors no longer see the market correction as a temporary dislocation, but rather driven by more persistent macro risks”, says Credit Suisse.
FINSUM: The market is continuing to reflect a comment we made yesterday—that the problems plaguing stocks are not simple to resolve, so is easy to see how prices could continue to fall for some time.