Stocks Stuck In An Endless Loop Because Of The Trade War

Stocks Rally On Monday

On Monday, the S&P 500 avoided making a new correction low as it increased 1.1%. Action has been extremely choppy in the past couple weeks as you can see from the chart below. The market has matched the rhetoric from President Trump and China on the trade war. It’s an endless reflexivity loop because stocks rally when President Trump is positive on trade and fall when he is negative on trade. Trump is positive on trade after stocks fall and is negative after they rally. Stocks and the President are reacting to each other.

It’s a ping pong action that is great for traders and confusing for everyone. I think stock market declines are good for the odds of a trade deal. If you’re a bull, you’d rather one big decline which forces an actual deal rather than endless small positive news headlines where nothing gets done. Businesses are in flux. They have no visibility which means they can’t make big investments. Even when stocks are rallying and it looks like the negotiations are going well, until a deal is in place, businesses can’t be sure of what will happen.

Could We See A 5 Week Losing Streak?

S&P 500 has been down 4 straight weeks even though this correction has been very modest. It hasn’t been a full correction in my opinion. The chart of the S&P 500 shows how much larger the previous corrections have been. The bottom chart shows there has only been one losing streak since 2009 that has been more than 4 weeks. In 2011 the S&P 500 fell 6 weeks in a row. Obviously, this doesn’t mean the market won’t fall this week. How much the market falls matters much more than whether a silly streak continues. It’s just food for thought. That’s why I won’t bother predicting whether stocks will rise or fall this week.

Another interesting point is that August has been the worst month in this bull market. Through last year, the S&P 500 has fallen 1.2% on average in August. It’s down 3.42% so far this August. It’s very likely August is a negative month, making it the second such month this year. The S&P 500 has had 13 daily declines of 2% or more in August since start of the bull market. That’s tied with January for the most. That shows how volatile August has been. In the long term, September has been the worst month. The market has gotten a head start on volatility in this cycle.

The good news is that when the S&P 500 has fallen in August in this bull market, it has risen an average of 8.6% in the final 4 months of the year. That would be a fantastic run to new highs in 2019. It’s possible if there is a trade deal.

Details Of Monday’s Action

Nasdaq was up 1.32% and the Russell 2000 was up 1.13%. VIX fell 0.55 to 19.32 as it still shows the correction is ongoing. That was a relatively small decline in the VIX considering how high it is and how much stocks rallied. There wasn’t much movement during the trading session except the odd 0.42% rally in the S&P 500 in the last 10 minutes. 

CNN fear and greed index was steady at 18 which is extreme fear. Investors don’t trust the rally. Monday was another example of every sector headed in the same direction as they all rallied. The best performers were communication services and technology which rallied 1.53% and 1.39%. The tech sector loves trade deal talks and hates tariffs.

Financials also rallied as they were up 1.08%. The financials hate the low yields and the curve inversion, but they like the recent shift towards slightly fewer rate cuts this year. 10 year yield is currently only at 1.51% as the market sees little growth and inflation coming soon. 2 year yield is at 1.52% as the curve is inverted. 10 year 3 month yield curve is more inverted now than in 2007. 

Inversion is more because the 10 year yield is low rather than the 3 month bill being high since real yields are only barely positive. As you can see from the chart below, there has been extreme greed in the safety trade as money has gone to money markets and the TLT which is a long bond ETF.  

There is once again a 100% chance of a rate cut in September; the most likely odds are for 2 more cuts on the year, making the total for 2019 3 cuts. There is a 47.7% chance of exactly 2 cuts and a 36.7% chance of at least 3 more cuts. The September 18th rate decision is in just 22 days.

China Back To The Negotiating Table

To be clear, every single tariff is a form of negotiation. The news on Monday was that China is supposedly back to the negotiating table ready to make a deal. President Trump stated, “China called last night our top trade people and said. ‘Let’s get back to the table,’ so we will be getting back to the table and I think they want to do something. They have been hurt very badly but they understand this is the right thing to do and I have great respect for it. This is a very positive development for the world.” 

It’s tough to say whether China actually is ready to make a deal. But it’s no surprise the President is dovish on trade because stocks fell sharply on Friday.

The chart below breaks down the tariffs on imports from China set to go into effect in the next few months. Big increases will be on September 1st, which is next week, and December 15th. By December 15th, the average tariff rate will be 24.3% and 96.8% of imports from China will be taxed. 

At that point, there isn’t much left to threaten except higher rates. President Trump will have done about 80%-90% of what he can do to get China to do a deal before election season starts. I see the President delaying the December 15th tariffs because progress will be made this fall. The goal is for all the latest tariffs in this trade war to be eliminated.

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2 Comments

  • Michael

    August 27, 2019

    If the S&P 500 breaks the 200 Moving average then alot of algo's and day traders will sell. go much more short. Perhaps that is why volatility is not going down. some go short when the 9 and 21 DMA is broken.

  • Michael

    August 27, 2019

    I'm for higher tariffs. They are a net good activity for the USA economy. Better than flat tax everyone has yelled about being great. Name something you purchase you've noticed has gone up in Price because of tariffs on china. The price of cheap china stuff has cause many more lost jobs and ruined local economies.