Stock Market Buy the Dip, Bail Out, Or Just Worry?

By: Sy_Harding

Here we are in August and the debate still continues as to whether the promised bounce-back from the winter slowdown took place, or if the economy is in an ongoing slump.

Why should there be any question?

The Fed assured us again at its FOMC meeting on Wednesday that “Growth in economic activity rebounded in the second quarter. Labor market conditions improved. . . . . Household spending appears to be rising moderately, and business fixed investment is advancing.” It did acknowledge that “the recovery in the housing sector remains slow.”

What could be more reassuring than that, the proverbial ‘Goldilocks economy’, improving but neither too hot nor too cold?

Realizing it is the Fed’s job to always be optimistic and assuring, analysts and investors hoped the major economic reports of the last ten days would provide similar assurances.

However, the reports raised more questions than they answered.

Reports from the important housing industry remained dismal, indicating not just that its recovery “remains slow”, but that its recovery reversed to the downside months ago.

New home starts fell 6.5% in May, and permits for future starts fell 6.4%. That carried through to an 8.1% plunge in new home sales in June, missing the consensus forecast by a wide margin. New home sales are now 11.5% lower than a year ago.

It was reported this week that Pending Home Sales fell 1.1% in June, moving the index to 7.3% below its level of a year ago. There was also the report that Construction Spending plunged 1.8% in June. Those reports do not bode well for the housing industry’s next reports for July.

On the positive side, auto sales, the other major driving force for the economy, continued to surge higher. General Motors, Ford, Chrysler, Nissan all reported sizable sales increases in July.

So, take your choice. Is the housing industry issuing a warning that we need to heed, or do auto sales trump housing and signal all is well?

Meanwhile, like the housing sector reports, the employment reports also disappointed.

The ADP employment report showed the economy created only 218,000 new jobs in the private sector in July, down from 281,000 in June. The Labor Department jobs report on Friday showed the economy created only 209,000 jobs in July, missing the consensus forecast of 235,000. In addition, the unemployment rate ticked up from 6.1% to 6.2%.

Even the biggest surprise of the week, that GDP growth bounced back to an annualized rate of 4.0% in the second quarter, better than the consensus forecast for 3.0%, failed to be assuring.

Analysts pointed out that 1.6% of that 4.0% growth was due to inventory building. Periods of unusual inventory building are usually followed by a decline in activity in subsequent periods as that inventory is worked off.

Manufacturing reports also provided an inconsistent picture.

The important Chicago PMI Mfg Index plunged to 52.6 in July from 62.6 in June, much worse than the consensus forecast of an improvement to 63.6. It was the biggest decline in the Chicago Index since October 2008. The Market PMI Mfg Index declined from 57.3 in June to 55.8 in July. However, the ISM Mfg Index improved from 55.3 in June to 57.1 in July.

Overall, the reports did not provide the hoped for assurances.

In addition, they certainly did nothing to alleviate the high market risk indicated by stock valuations, investor bullishness and complacency, insider and institutional selling, the Fed tapering back stimulus, toppy European markets, unfavorable seasonality, and the unusually long time without a normal 10% to 15% correction.

So apparently tired of ‘doing nothing complacency’ while waiting for confirmation that the ‘all is well’ assurances are factual, markets took matters in their own hands. They sold off sharply this week.

There were even some signs of panic in the big decline on Thursday, when there was no escaping the carnage. They were throwing the baby out with the dishwater so to speak. Even safe haven bonds closed down, and there were ten times as many stocks down as up on the NYSE. It also showed up in the volume, with almost a billion shares traded on the NYSE and 2.1 billion shares on the Nasdaq, roughly 50% about recent average daily volume.

Yet, as of Thursday’s close, the Dow was only 3.4% beneath its mid-month peak, the S&P 500 only 2.0% beneath its record high, and the Nasdaq down only 2.6%.

However, with the market having made so little progress in 2014, the Dow has given back all its 2014 year-to-date gains. So you could wonder if it was worth the risk. The Sell in May and Go Away saying is not looking as silly as it did a month ago.

The market is down 3% from its peak. Buying 3% dips has worked all year. Or is it a last opportunity to sell near a market top?

All I can say is that nothing I saw in the Fed’s assurances, or in the week’s big ration of economic reports, has changed my expectations of a significant 15% to 20% correction during the market’s unfavorable season, to a low in the October/November time-frame.

Sy Harding is president of Asset Management Research Corp., and editor of the free market blog Street Smart Post.

© 2014 Copyright Sy Harding- All Rights Reserved

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