The last few days – since the post-Trump-speech spike – have seen stocks suffer the worst decline since the election (with The Dow down a 'shocking' 0.9%).
But there are cracks appearing (VIX, Emerging Markets, Copper, 'hard' macro data, and now High Yield Credit are all breaking down)…
The last 4 days are the worst for HY Credit since before the election…
And HY's breakdown follows Emerging Markets decoupling last week…
And Dr.Copper's not buying it either…
And stocks gave up their grip on macro data reality a while back…
And as Bloomberg's Mark Cudmore warns “excitement may ensue, the correction is here already.”
It's a testament to how far markets have come that I'm calling the recent slippage in U.S. stocks the start of the much-talked about and widely anticipated “correction.” My guess is that everyone will get very excited for a couple of weeks but this won’t mark the start of any long-term selloff.
S&P 500 e-mini futures are in the midst of their largest peak-to-trough drawdown of 2017. They’ve so far plummeted a whole — gasp — 1.7%.
That just emphasizes how little volatility there has been. The largest correction since November 9 has been only 2%. The steep upward trendline from that day’s low is being tested.
A closing break will trigger further losses. They could be sizable when set against the lack of retracements of the last year. But, importantly, they’ll probably be irrelevant when framed against the 30% rally from the 2016 low, let alone the 250% rally from the 2009 nadir.
For example, a 7% fall will have painful short-term knock-on effects. But there’ll be basically no structural damage because that sort of drop still leaves U.S. stocks above what was a record four months ago. If anything, such a retracement could be seen as a healthy consolidation in that it’ll clean out complacency.
As for potential knock-on effects, I can’t help but feel that those record speculative shorts in 10-year U.S. Treasuries might get squeezed as the rate curve flattens further. This might, in turn, weigh on the dollar — although probably not versus emerging market currencies.
In a month or two, we may look back on commodities as having been the canary in the coal mine. They mostly peaked in mid- February. Hard to sustain the reflationary trade if the world’s core inputs are falling in value.
It may seem worrying to market veterans that a market drop of only 1.7% is the siren call to buckle down for some volatility, but there’s no point denying the reality we live in.
With all this in mind, we are sure the now certain rate hike next week won't have any impact at all –
“All priced in” and we note that the odds of a second 25bp hike in September, based on 5th Fed dated OIS, climbed to 97% from 87%.