The S&P 500 and the First Lévy Flight Event of 2019

2019 is off to a rollicking start for the S&P 500 (Index: SPX), which appears to have launched into its first Lévy flight event in 2019.

If that’s not a term you’re readily familiar with, here’s what that means. A Lévy flight is similar to a random walk for stock prices, but instead of the relatively small changes in stock prices that characterize a true random walk, it is characterized by the sudden emergence of comparatively large changes – more so than would be predicted by a normal distribution.

From our perspective, Lévy flight events can occur whenever investors shift how far forward in time they are looking into the future as they go about setting current day stock prices, where the differences in expectatations for the sustainable portion of future earnings associated with these different points of time drive these outsized changes in stock prices. For the first Lévy flight event of 2019, that shift appears to be from the distant future quarter of 2019-Q4 back to the current quarter of 2019-Q1.

It was even sort of predictable, where we described what would happen if investors acted to shift their forward-looking attention just as they appear to have, well before the market even opened last week.

• If investors remain focused on the distant future quarters of 2019-Q3/2019-Q4, the S&P 500 can be expected to generally follow a downward trajectory throughout 2019-Q1, falling into a true bear market for the index.
• If investors shift their attention toward 2019-Q1, the effect would be to boost stock prices higher, where they would largely move sideways during the quarter with respect to their current level.
• Should investors shift their forward-looking focus to 2019-Q2, the market would see a significant rally above its current level.

Investors chose Door #2 in this real-life Monty Hall problem!

Meanwhile, because we’ve now entered the period of time where it will be relevant, we’ve redrawn our redzone forecast to correspond with this selection, anchoring its starting point with where the S&P 500 closed on Friday, 11 January 2019. If you want to know more about our assumptions in generating the forecast, we’ve incorporated them in the annotations on the chart.

With the Fed’s future actions now fading into the background noise after dominating much of the market-related news headlines last week, we can perhaps look forward to investors sustaining their focus on 2019-Q1 as earnings season gets under way in the week ahead. That should mean the end of the first Lévy flight event of 2019, with smaller stock price movements from day to day, but this is also when a number of companies will change investor expectations for the future, which can change stock prices as investors rapidly absorb all new information.

Speaking of new information, here are the major market-moving headlines from the past week….

Monday, 7 January 2019

• Oil rises; lifted by OPEC cuts, steadying stock market
• Fed’s Bostic sees one U.S. interest rate hike this year
• U.S., China can reach trade deal ‘we can live with’: U.S. Commerce secretary
• Amazon and Netflix push Wall Street higher

Tuesday, 8 January 2019

• Oil prices rise over 2 percent on trade talk optimism
• Apple, Facebook propel Wall Street to three-week peak

Wednesday, 9 January 2019

• Oil up more than 4 percent on U.S.-China trade talk hopes, OPEC cuts
• Bigger trouble developing in China: China to further cut taxes for smaller firms: state TV
• China pledges to buy ‘substantial amount’ of U.S. goods: USTR
• Many Fed policymakers urged patience on future rate hikes: minutes

• Fed policymakers say U.S. rate hikes can wait, for now
• U.S. Fed may be open to changes to balance sheet plan, minutes show
• Not getting the message yet: Fed may still need to hike rates twice this year: Rosengren

Wall Street extends rally as chipmakers rebound

Thursday, 10 January 2019

• Oil rises again but global economic concerns cap gains

• U.S. oil export boom sparks a battle to build Texas ports

Fed hawk capitulation: Fed’s Powell again stresses patience as U.S. economy’s ‘narrative’ unfolds

• Fed’s No. 2 says U.S. policy would react if ‘crosswinds’ persist
• Fed wouldn’t wait too long responding to overseas slowdown: Clarida
• Fed at ‘end of road’ on rate hikes, Bullard says
• Fed’s Evans repeats view that Fed can wait on rate hikes

Stocks rise for fifth straight day as the Fed supports

Friday, 11 January 2019

• Oil falls nearly 2 percent amid global economy concerns but ends week higher
• Bigger trouble developing in China:
  • China to cut company tax and fees further to spur growth: minister
  • Exclusive: China to set lower GDP growth target of 6-6.5 percent in 2019 – sources
  • China banks’ bad loan ratio climbs to 10-year high at end-2018
• Wall Street’s five-day rally flickers out as earnings near

Barry Ritholtz listed the week’s positives and negatives in his weekly succinct summary of the major economics and market-related news, and deployed the word “stalement”! What does that mean? It’s defined in the Urban Dictionary!…