Border March


“Is this a dagger which I see before me?” – William Shakespeare, Macbeth

It was an odd sort of week on Wall Street. For one thing, it was the first time the Dow had fallen five days in a row since May 2012 (the fall was more restrained this time). One might think it was due to the weakness of the economic data, but much of it was misreported as being better than it was. The former was unusual, the latter was not.

Stocks had come into the week overextended and ready for at least a mild pullback. Much of it can be laid on the doorstep of overseas news – trouble in China and Ukraine had the markets off-balance all week. They are both legitimate concerns.

Only the Ukraine issue is new. As I wrote last week, a pullback was imminent, and with a little help from that region the damage could slip into the five percent range. Sunday’s “referendum” to endorse the hand-over of Crimea to Russia will give the latter some tactical positioning to cut a deal – probably a semi-autonomous Crimean republic is on the way, or a deal like it, one that will guarantee Russian access to the Black Sea and allow the Ukraine to save some face in exchange for Russia agreeing not to invade the eastern part of the country.

There could be some more saber-rattling first; there could also be some unwelcome development coming out of the bizarre disappearance of flight MH370. The last Ukrainian bout of anxiety led to a terrific short-squeeze and rip-reversal rally – so it’s unlikely to happen again. For one thing, short-sellers won’t co-operate, and for another, the market just never works that way. It might repeat itself a couple of years later, but not in a couple of weeks.

The Chinese situation isn’t new. Admittedly the tenor of the news has deteriorated of late, with steady disappointments in purchasing surveys, trade data and retail sales. Those also come at a time when the market was overextended and is overvalued. Lacking a better valuation cushion, the pullback could deteriorate into a larger correction if the market is unhappy with next week’s Fed meeting. One veteran trader was on CNBC Friday warning that the bullish trend appeared to be breaking down, for him signaling an imminent sea change. The failure of the S&P to march straight to 1900 is perhaps understandable in light of the political situation, but it did raise eyebrows.

As will be seen below, the economy is off to a slow start in 2014. There have been many predictions about increases in corporate spending, consumer spending and housing that have so far not come to pass, with all delays being blamed on the weather. GDP looks set to drop to about 1.5% in the first quarter.

The weather excuse has been handy, but it is getting a bit worn at this point. The current malaise could turn into a larger correction or the damage could be limited. That may not seem very helpful, I admit, but there are too many unknowns right now that could swing sentiment in either direction – the Fed meeting, the Ukraine, even the missing Malaysian airliner. The economic releases on next week’s calendar are all tilted towards some sort of rebound from February – the market may want to celebrate them if the direction is right, or sell off if it isn’t. Overall, the market does look like it’s running out of gas. Whether it gets to 1900 first or not, volatility is likely to be the trend.

The Economic Beat

The report of the week was retail sales, to my disappointment generally misreported in the media (e.g., NPR, the Wall Street Journal) as signifying strength. This was because the reported monthly increase of 0.3% (seasonally adjusted) was greater than estimates of 0.2% – but the increase of 0.3% was due to January being revised from (-0.4%) to (-0.6%). The salient point is that through the first two months, year-to-date sales growth is 1.9%, compared to a year-ago 3.6%. The weather conditions preclude me from saying sales are falling off the cliff, but the size of the slowdown also preclude me from blaming it all on the weather.

March is apt to be somewhat better for sales and there will undoubtedly be a rebound as the weather warms, but the real trend to focus on will be the twelve-month one – that is, if you want to know which way the economy is going. Currently the twelve-month growth rate for sales excluding autos and gasoline sits at about 3%, which is worrisomely low. If you want to know which way the market is going in the next few weeks, though, then the next couple of monthly reports rate to be more influential.

Weather is also messing up some of the price data. Import prices, for example, were estimated to have risen a much greater-than-expected 0.9% in February – but it was energy/weather-related: Excluding energy, they fell (-0.2%). The persistent weakness in both import prices and volumes is suggestive of an economy not on the verge of escape velocity.

“Final-Demand” producer prices (a new category) also fell in February, by (-0.1%), leaving the year-on-year change at only +0.9%. Excluding food and energy, the annual change is 1.1%, which suggests plenty of slack in the economy. However, food prices are set to rise in the coming months.

The weekly claims data (315,000) was also hailed as a victory because it beat consensus, but the only unusual aspect of the data was that the adjustment factor this year was more favorable than the year-ago one. The unadjusted data show no sign at all of change in the prevailing trend – in fact, the weekly decline in unadjusted claims was smaller than last year at this time. Keep in mind that claims are usually soft in March and September (end of the first and third quarter) and elevated in June and December (end of second and fourth quarter), in keeping with the rhythm of business. The JOLTS (labor turnover) survey for January didn’t reveal much new – things are a little better than a year ago, but the favored phrase in the report was “little changed.”

On the survey side, there was some decline in optimism, most likely reflecting the headlines. Small-business optimism and consumer sentiment both fell a bit more than expected, but as I have often said, they are not useful as forward-looking indicators. Of more interest was that wholesale inventories rose faster (+0.6%) than sales (-1.9%) in January, implying weakness in conditions and payback down the road. More weather, I suppose.

Next week will be a busy one, highlighted by the FOMC statement on Wednesday, followed by Janet Yellen’s first press conference as Chair of the Federal Reserve. No change is expected in the taper policy – in other words, another $10 billion is slated to be trimmed from monthly purchases, leaving them at a still-robust $55 billion per month. Yellen has also been in no-change mode in her Congressional hearings, where she has acquitted herself well. so the expectation is for more of the same on Wednesday. That, of course, sets the market up for some real volatility, so we will see.

It’s a busy week elsewhere from the Fed, with the New York manufacturing survey and national industrial production report for February set for release on Monday, and the Philadelphia survey and latest stress-test results of the major banks due on Thursday. With housing starts on Tuesday and quarterly expiration on Friday (“quadruple witching”), we are set up for some action – and that doesn’t even include the Ukraine.

We’ll get a clue to the starts data from Monday’s release of the homebuilder sentiment index, surely due for a rebound from last month’s sharp drop. Existing home sales for February come out on Thursday, and the consensus is for a very modest decline. So much data in one week tends to overwhelm the market and cancel each other out, unless it’s all in one direction. I make no predictions thereof, but market sentiment does seem ready for a big move in either direction. The consumer price index on Tuesday rounds out the week.

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