After a stellar first month for equities this year, February started out on a decisively negative note, with the major indices enduring the deepest correction since August. The benchmarks fell by around 4% from the record highs set in the previous week, while volatility also hit a 15-month high. Year-to-date, stocks are still up by a healthy margin, and technicals are still showing a bullish underlying trend. So for now, the Gorilla is not worried about the orderly correction. With Janet Yellen concluding her term as the Fed Chair with a hawkish statement, the bond market might be in focus in the coming months, and the sudden rise in interest rates towards the end of the week was already among the bearish catalysts behind the pullback (besides the mixed earnings picture).
Interestingly, the major economic releases were overwhelmingly positive, but that didn’t stop the decline in prices, even as on Friday, the closely watched government jobs report beat the consensus estimate across the board. Non-farm payrolls increased a bit more than expected, wages also grew at a healthy pace, while the unemployment rate remained at the historically low level of 4.1%. On the other hand, in the first three weeks of 2017, economic numbers were clearly negative, without weighing on investor sentiment. Last week, only personal spending missed expectations, while consumer confidence, the ISM manufacturing PMI, and the Chicago PMI were all above the consensus estimates.
The technical picture remained solidly positive as the major indices, despite the ongoing correction, and the previously observed “overbought” readings are quickly being cleared by the move. The Dow, the S&P 500, and the Nasdaq are still above both their 50- and 200-day moving averages, even if the distance from the indicators shrank considerably. The relative weakness in small caps was yet again a valuable clue that a broader correction is coming, and the Russell 2000 is still lagging the main benchmarks, as it finished the week below its 50-day moving average. The Volatility Index (VIX) topped 17 for the first time since the end of 2016, and until the selling pressure persists, the fear index is expected to remain elevated.
Market internals are showing weakness thanks to the broad decline in prices and the weakness in small caps, and the Gorilla will keep an eye on the most reliable measures for positive divergences in the coming weeks. The Advance/Decline line took a nosedive as the indices turned lower, while declining issues outnumbered advancing stocks by a 3-to-2 ratio on the NYSE and a 2-to-1 ratio on the Nasdaq. The average number of new 52-week highs collapsed on both exchanges, plunging to 97 on the NYSE, and 99 on the Nasdaq. The number of new lows declined substantially from the already low 69%, and now the indicator stands at 61%, confirming the widespread weakness in stocks.
Short interest rose yet again after a steady period, as investors boosted their bearish bets and placed hedges amid the increasing volatility. Match Group (MTCH) defied the negative environment and kept on drifting higher throughout the week, while short interest increased to 47% in the meantime. Zion Bancorp (ZION) also finished the week higher, at a new all-time high, which might be a scary development for bears, given its days-to-cover (DTC) ratio of 11. Verisign (VRSN) is very close to its all-time high too, and it finished the week just a tad lower, and with the very high DTC ratio of 18, it means that a breakout to new highs could be just around the corner.
After one of the busiest weeks in months, this week is shaping up as a very quiet one on Wall Street, at least as far as economic releases are concerned. With only the ISM non-manufacturing PMI being scheduled for Monday, technical levels, earnings reports, international trends, and the more and more chaotic Russia-Gate could be in focus. The Gorilla is curious as to how the Chinese stock market will behave. Given the growing importance of the country, the lackluster performance of the Shanghai composite could be one of the main reasons behind the current correction. With the improvement in economic releases, the rising trend in Treasury yields might also continue to weigh on investor sentiment, but bulls hope that prices will soon turn north again. Stay tuned!
