US Stocks Recover, but Only in Part

After suffering the first correction in two years, the S&P500 roared back with a huge 4.3% gain last week. Unfortunately volume on the upside was far lower than it was on the downside the prior two weeks. This means that investors did not run back into the US stock markets buying equities with both hands; if anything, last week’s bounce was driven by short-covering. Volatility did come way down last week; the VIX index dropped off into the upper teens. Unfortunately, once again, this is still a level that’s far more elevated (almost double) than the levels enjoyed during most of 2017.

What’s interesting about last week’s bounce, and what supports the theory that short-covering drove most of it, was the fact that the inflation figures reported during the week were far worse (ie. higher) than experts had anticipated. Normally, this would have set off even more selling—on the theory that higher than expected inflation will lead the Federal Reserve to raise rates faster than planned. Instead, US equity markets shook off the shockingly bad CPI and PPI misses and rallied. In other US macro news, retail sales missed badly. The Empire State manufacturing survey disappointed. Industrial production fell, when it was supposed to rise. On the bright side, the Philly Fed survey, housing starts and consumer sentiment all beat expectations.

So the bottom line on this recovery is that it’s returned less than half the losses that US equity investors have suffered. And what happens next really all boils down to investor sentiment (because even with a 10%+ correction, equity market valuations have not really changed all that much—they’re still extremely high). If the “buy-the-dip” mentality is still intact, then the bounce may continue and return the major indices back to their all-time highs…..and beyond. But if the “buy-the-dip” mentality has weakened, then many investors will be looking for significant bounce as their cue to get out, before another more severe correction (or worse, a bear market) begins. In this case, a new “sell the rallies” mentality will take over, and the stock market would promptly move below—and stay below—the 200 day moving average. We’ll know which way the market sentiment has changed, or not changed, in less than two weeks.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google photo

You are commenting using your Google account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s

%d bloggers like this: