MarketView for January 31

 

 

Summary

 

A selloff in emerging markets sent a cold chill down Wall Street, triggering a slide on Friday and making January its worst month since May 2012 after one of its best years in more than a decade. January marked the worst month for the Dow Jones Industrial Average and the S&P 500 since May 2012, and the worst for the Nasdaq since October of that year.

 

For the week, the Dow fell 1.1 percent, the S&P 500 was down 0.4 percent and the Nasdaq fell 0.6 percent.

 

For the month, the Dow fell 5.3 percent and the S&P 500 index was down 3.6. The January loss followed the S&P 500's gain of 30 percent in 2013 - its best year since 1997. The Nasdaq fell 1.7 percent It also marked the first time that the S&P 500 ended January with a loss since 2010, when the benchmark index started the year with a drop of 3.7 percent.

 

In Friday's session, energy and consumer discretionary shares had the largest declines of the day after some disappointing earnings. The S&P energy index ended the day down 1.5 percent, while the consumer discretionary index off by 1.3 percent. Chevron and Amazon were among the day’s worst perfomers.

 

Trading was volatile during the session, with the Nasdaq briefly edging into positive territory and the CBOE Volatility Index briefly turning negative.

 

However, selling accelerated, heading into the close. The VIX moved up 6.5 percent to end Friday's session at 18.41. For January, the VIX increased by 34 percent, its largest monthly gain since May 2012. The fear index hasn't traded above 19 since October.

 

Global equity markets have been rattled by the outlook for emerging markets, including slower growth in China, while the Federal Reserve's decision this week to keep withdrawing its monetary stimulus added to worries.

 

A selloff in emerging market currencies spurred some central banks to raise interest rates or intervene in markets to limit the swings, but investors worry it may not be enough to reverse the trend. The Fed's removal of stimulus added to the concerns because the extra liquidity has helped many of those markets.

 

Weighing on investor sentiment was data showing that inflation in the euro zone slowed this month to 0.7 percent from 0.8 percent in December. That reading confounded expectations for an increase to 0.9 percent and matched a low hit last October. The European Central Bank responded by cutting its interest rates to record lows.

 

Among the day's largest decliners was Amazon, which fell 11 percent to close at $358.69, a day after the retailer missed Wall Street's estimates for the crucial holiday period. Amazon also cautioned investors about a possible operating loss this quarter as shipping costs climb.

 

Chevron fell 4.1 percent to end the day at $111.63, its worst daily percentage decline since October 2012, after the company said its fourth-quarter profit decreased by 32 percent as both refining margins and production fell around the world.

 

On the plus side, Google added 4 percent to close at $1,180.97 after the company reported quarterly revenue that exceeded Street expectations despite an ongoing decline in prices for its online ads and deepening losses at Motorola, which is being sold to China's Lenovo.

 

Zynga ended the day up 23.6 percent to close at $4.40, after the video game maker, said late Thursday that it will cut 15 percent of its workforce.

 

Volume was higher than the average for the month with approximately 7.8 billion shares changing hands on the three major equity exchanges, as compared with the average of 6.9 billion shares this month, according to data from BATS Global Markets.

 

And the Week Ahead

 

The catalysts that drove the Dow and the S&P 500 to their worst monthly performances since May 2012 have not gone away. The retreat from emerging markets appears to have more room to run as the factors that helped propel the market to record highs in mid-January are beginning to weaken somewhat.

 

Calls for a market correction have become louder, with the S&P 500 down 3.6 percent from its all-time closing high and the Federal Reserve's announcement on Wednesday that it will keep trimming its monthly bond buying.

 

Moreover, the myriad issues surrounding emerging markets remain at the forefront for investors. Although countries such as Turkey and South Africa have taken steps to stabilize their currencies, the trend has remained negative. Yes, it is tempting to believe that U.S. stocks are a salve for this pain. Yet, the reality is that when emerging markets swoon, U.S. markets also feel the pain somewhat.

 

Goldman Sachs analysts wrote last week that when MSCI's emerging markets index falls at least 5 percent, the S&P 500 tends to fall by half of that. The MSCI index has dropped 11 percent since its October peak.

 

The effect on U.S. companies is harder to discern. Goldman estimated that S&P 500 companies derive 5 percent of their profits from emerging markets, with some sectors more affected than others.

 

Among the companies with large emerging markets exposure set to report earnings next week are General Motors and Yum Brands. Yum receives more than half of its sales from the "BRIC" nations - Brazil, Russia, India and China.

 

Consumer demand in China has been particularly sluggish, which affected Apple's results, as well as Wal-Mart, which closed some locations in that country, as well as in Brazil.

 

With half of the S&P 500 companies having reported earnings so far, almost 70 percent have exceeded earnings expectations, above the long-term average of 63 percent, according to Thomson Reuters data. Two-thirds have exceeded estimates on revenue, above the historical average of 61 percent, though companies have generally been meeting or beating lowered expectations.

 

When looking at the demand for stocks, consider that the three busiest days for the market in terms of the S&P's E-mini futures contract, the most heavily traded equity futures contract, were Wednesday, Monday, and last Friday, January 24 - all of which were selloffs.

 

Still, money keeps moving into stock market funds, with $10.24 billion added in the week ended January 29, according to Thomson Reuters' Lipper service. This marked the sixth straight week of net new cash.

 

The S&P 500 is about 0.5 percent above its 100-day moving average, a level that could provide support against further losses. According to the most recent Reuters poll of analysts, the benchmark index is expected to end the year at 1,925 - about 8 percent above its most recent close.

 

Consumer Sentiment Falls

 

Consumer sentiment dipped slightly in January, with recent economic improvement not translating to expectations for future gains, a survey released on Friday showed. The final reading on the Thomson Reuters/University of Michigan's overall index of consumer sentiment slipped to 81.2 in January, down from the 82.5 posted in December but up from the preliminary January reading of 80.4.

 

While upper income households reported improved confidence, households with incomes less than $75,000 reported a decrease.

 

"Prospects for either consumers' own personal finances or for the economy as a whole have remained more resistant to improvement, especially longer term prospects," survey director Richard Curtin wrote in a statement.

 

"This has prevented recent economic gains from building the type of positive upward momentum that has sparked and sustained increases in consumer optimism and confidence."

 

The survey's barometer of current economic conditions dropped to 96.8 in January, down from the 98.6 December reading but above both the initial read of 95.2 and the analyst expectation for a read of 95.5.

 

The survey's gauge of consumer expectations fell to 71.2 from 72.1 in December and was slightly below the mean estimate of 71.5. However, it was up from the preliminary reading of 70.9.

 

The one-year inflation expectation was 3.1 percent, above the 3.0 percent December figure, while the survey's five-to-10-year inflation outlook rose to 2.9 percent from 2.7 percent last month.

 

Spending Up - Confidence Down

 

Consumer spending rose in December, but a decrease in consumer confidence and signs of cooling in factory activity this month suggested economic growth could moderate in the first quarter.

 

At the same time, the Commerce Department said on Friday that consumer spending, which accounts for more than two-thirds of U.S. economic activity, increased 0.4 percent after advancing 0.6 percent in November.

 

While December's increase provided a firmer base for first-quarter spending, weak income growth could erode momentum. Income was flat after rising 0.2 percent in November. Consumer spending recorded its strongest gain in three years in the fourth quarter, helping to lift the economy to a 3.2 percent annual growth rate during that period.

 

Separately, the Thomson Reuters/University of Michigan's consumer sentiment index slipped to 81.2 in January from 82.5 in December. Confidence was down among households with annual incomes below $75,000.

 

In another report, the Institute for Supply Management-Chicago business barometer fell to 59.6 from 60.8 in December. A measure of factory employment in the U.S. Midwest contracted for the first time in nine months, while deliveries to suppliers fell. However, production, new orders and order backlogs increased slightly after falling in the prior two months.

 

Meanwhile, incomes are being held back by stagnant wage growth as the economy works through slack in the labor market. However, there are signs that wage growth could be on the brink of acceleration. In a fourth report, the Labor Department said wages and salaries increased 0.6 percent in the fourth quarter, the biggest jump since the third quarter of 2009. It followed a 0.3 percent advance in the third quarter. Wages and salaries account for 70 percent of employment costs.

 

Last month, income at the disposal of households after adjusting for inflation fell 0.2 percent. That move could take some steam out of consumer spending in the first quarter.

 

Weak income growth against a fairly strong spending backdrop at the end of last year led to less saving. The saving rate - the percentage of disposable income households are socking away - fell to an 11-month low of 3.9 percent in December. It was at 4.3 percent in November.

 

In light of the firming demand, inflation increased a bit in December. A price index for consumer spending rose 0.2 percent after being unchanged for two consecutive months. Over the past 12 months, prices rose 1.1 percent, compared to an advance of 0.9 percent in November.

 

Excluding food and energy, the price index for consumer spending rose 0.1 percent, rising by the same margin for a sixth straight month. Core prices were up 1.2 percent from a year ago, after rising 1.1 percent in November.

 

Both inflation measures remain stuck below the Federal Reserve's 2 percent target. That suggests that the Fed, which is gradually reducing the amount of money it is pumping into the economy, will hold interest rates near zero for a while.