Market Correction Is Continuing, But Changing its Message

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The stock market sell-off is indeed dragging on Monday, but it just took a twist. The market is telling us something a little bit different than what it was telling us in the first leg of the selling earlier this month.

Monday, the S&P 500 fell as much as 2% by mid-afternoon. The tech-heavy Nasdaq fell 1%.

But let’s take a look at the first bit of market pressure against what we are seeing Monday. The fears are changing and so are the price movements of some of the U.S. market’s premier stocks.

Between September 2 and September 11, the Nasdaq 100 fell 10.7%. In that time, the Vanguard S&P 500 Value ETF  (VOOV) - Get Report fell 4.3%. Value bulls don’t want to hear this, but value actually began to outperform growth, even though it was in the form of downside price movement. Growth tech stocks were selling off hard as it has become clear there is a real possibility that at-home services -- high-growth trends -- have seen so much accelerated adoption, there may be far fewer customers to acquire in later years. This has been a classic valuation re-rating and the Nasdaq 100 is down more than 12% since September 2. Amazon AMZN is a pretty good example, as it is down 18% since September 2. Demand for e-commerce and business cloud services in the current environment has surged, giving way to a year of explosive revenue growth for Amazon. But new e-commerce users can only sign up once. The company does have a long runway of growth, seen in its young and growing logistics B-2-B segment, which businesses are beginning to move onto. Still, Amazon has likely pulled forward a lot of demand.

Meanwhile, the second-quarter earnings beats (a 30% year-over-year contraction on the S&P 500 versus estimates of -45%) had clearly pointed to earnings momentum. Analysts, in aggregate, expect earnings per share for 2020 to reach a level near 2019’s level. Cyclical companies were beating earnings estimates handily — namely industrials, materials and consumer discretionary. Fiscal and monetary stimulus had flown through the economy effectively, while businesses reopened. Value stocks participated in the summer rally.

But recently, some economic data, like the slowing rate of decrease in jobless claims (still not far under 1 million per week), is unmasking the economy’s need for more stimulus. While the Federal Reserve’s current interest rate trajectory is for a benchmark rate of 0% through 2023 — letting potential inflation run hotter than 2% - cannot stimulate the economy or the market more from here, it is fiscal stimulus needed now. Small businesses are shut down and strapped for cash. That’s a serious impediment to the continued rapidity of the reduction in the unemployment rate. That’s an impediment to consumer spend and corporate earnings. And many stocks — not just growth tech — are priced at arguably full valuations that already reflect low interest rates.

By the way, the 10-Year Treasury yield at 0.66% Monday afternoon is below the expected inflation rate by next year of above 1%. Low real yields support equity valuations, but the real yield can only flip positive from here, a development that would, itself, be valuation negative, but would reflect economic and earnings strength. That would favor value stocks over growth stocks which do not benefit as much from economic expansion. To be sure, earnings growth from secular trends is so strong for growth stocks, they still have the potential to outperform.

In any event, the selling in growth tech abated on Monday. Tech had been beaten up enough and a few unsettling developments collided for a perfect storm for cyclical value. The result: some pressured tech stocks like Apple AAPL flipped briefly positive by midday, while cyclicals plummeted. Airlines fell about 7%. Oil stocks fell more than 4%, with the price of oil down the same amount.

That fiscal stimulus bill isn’t close to being finalized. The current bill, according to some reports, could only be $500 billion, not the trillions we had seen earlier in the year. With the looming political battle over a successor to Supreme Court Justice Ruth Bader Ginsburg, investors perceive the stimulus bill as on the back-burner. Meanwhile, that expected cold-weather wave of virus infections may have already begun. The trailing 7-day moving average of new daily virus cases in the U.S. is now 42,000, up from 35,000 less than a month ago, according to Johns Hopkins data. This potentially means more lockdowns, which must be met with aggressive stimulus in order for the V-shaped economic recovery to continue as such. Waning political will for more fiscal stimulus was said, in the summer, to have been a potential catalyst for harsh selling. That seems to be unfolding.

The September sell-off began as tech-focused, while the economy seemed fine. Now, it’s the economy investors are worried about. 

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