DOW DROPS 832 POINTS AND NO ONE HAS A CLUE / BARRON´S MAGAZINE

Dow Drops 832 Points and No One Has a Clue

By Ben Levisohn




Stocks just suffered a drubbing like few others—and no one really knows why. Even worse, there’s little agreement on what comes next.

The S&P 500slumped 3.3% to 2785.68, its biggest decline since Feb. 8, while the Dow Jones Industrial Averagedropped 831.83 points, or 3.1%, to 25,598.74, also its largest since Feb. 8. The Nasdaq Composite dropped tumbled 4.1% to 7422.05, its biggest one-day slide since June 2016.

Usually when the market tumbles so dramatically we can pinpoint a reason. Maybe bond yield’s spiking dramatically, or a new tariff was imposed, or an economic data point suggested that the Fed would have to start tightening rates. But there was no headline today, just the culmination of weakness that began when September turned to October.

As with February’s correction, a rapidly rising 10-year yield seemed to be the impetus for the initial weakness, but it was weakness that seemed limited to the Nasdaq and its highflying coteries of tech stocks like Netflix(NFLX) and Amazon.com(AMZN). If the rise in yields was caused by better-than-expected growth, as it was assumed, then buying Financials and other sectors that benefit from a stronger economy should continue to do well. But yesterday’s report from the IMF suggesting slower global growth put a crack in that story, one that had already been suggested by the outperformance of Utilities. And Fastenal’s(FAST) earnings today suggested that Industrial stocks are starting to feel the pinch from cost inflation.

That combination of higher rates, slower growth and rising costs is, how shall we say this, not good for the market. And the question now is whether the market finds a bottom soon or if we get a repeat of February’s correction.

The optimists suggest there’s no reason to fear the pullback. Merion Capital Group’s Rich Farr, for instance, highlights the strong economic backdrop, the relative strength in credit markets and the fiscal stimulus still coursing through the economy, which suggests that the market should still have upside ahead of it. If the market were to head lower, it would be for one of two reasons: Tensions between the U.S. and China get worse or the Federal Reserve raises interest rates too high. Regarding the former, Farr hopes “cooler heads will prevail.” And if the Fed hikes into slower growth, “stocks have peaked,” he explains. “But if Fed pauses, then stocks have not. Today, the odds of a Fed pause have gone up.”

Sill, it pays to remember that the last time the 10-year Treasury was near these levels–it closed at 3.221%–was in 2011, when the S&P 500 was trading at 13.1 times. Today, it was trading at about 16 times, observes MKM’s Michael Darda. To get back to those valuation levels, the market can continue falling, remain rangebound as earnings grow, bond yields could fall, or some combination of the three, he explains

Of course, there’s one other possibility: We could be witnessing the end of the bull market. I’m not ready to go there yet, but others certainly are. I spoke with Leuthold Group’s Doug Ramsey, and he contends that’s what’s happening. He cites the rapidly rising yields–rate of change matters more than level, he says–the end of central-bank bond buying, and the market’s narrow breadth as all suggesting a top. In fact, the only things that makes him think that might not be the case is the strength of the leading indicators, and the fact that the yield curve hasn’t inverted. He’d already lightened up on stocks, before today’s drop.

I bet we all wish we had.