Market Recap for Tuesday, December 1, 2015
Equity markets enjoyed a very strong Tuesday, although it wasn't all good news. Money flowed into treasuries on a relative basis and this represents defensive action. It also occurred at a fairly critical short-term support area (20 day EMA) on the 10 year treasury yield ($TNX) and opens the door to further treasury buying. This makes little sense ahead of the upcoming FOMC announcement in a couple weeks where it's widely expected we'll see the first interest rate hike in the U.S. since June 2006. The TNX had fallen slightly on Tuesday morning prior to a very disappointing ISM manufacturing number, which was released at 10am EST. The actual number came in at 48.6 vs. the Wall Street consensus estimate of 50.5 and was a full point below the lowest estimate of 49.7. It was also the lowest ISM reading since the bull market began in 2009.
Equities appeared to ignore this poor economic report and perhaps focused more on the fact that we've begun December, a historically bullish month. Also, positive money flows were no doubt at work. I'm going to throw out a very cautious word here though. Friday's employment report now becomes critical for the Fed to raise rates. The ISM manufacturing report is one that's watched very closely by the Fed and they cannot be feeling overly convinced of a rate hike after seeing this data. New orders, in particular, were very weak. While the equity market ignored the news, the treasury market did not. From the chart below, you can see that the TNX dropped very quickly at 10am EST, the time of the ISM announcement. Bond traders are generally the smarter breed of trader in my view, so I ALWAYS pay attention to the TNX. A rising TNX suggests economic strength ahead while a lower TNX is indicative of the opposite. Here's the chart - check out the reaction:
Despite the obvious attraction to defensive treasuries after the 10am report, equities surged most of the day on Tuesday and closed at their highs of the day. Strange action indeed. Even stranger is the fact that aggressive areas of the equity market, excluding industrials for obvious reasons, led on a relative basis. I grow cautious when defensive areas attract money. The treasury market therefore is making me nervous while the action in equities supports a further advance. Hhhhmmmmmmm.
Pre-Market Action
Asian markets were mixed overnight and European indices are following suit - mostly mixed as well. The 10 year treasury yield ($TNX) is up 2.5 basis points as traders have been net sellers of treasuries this morning thus far. I'd like to see that continue and see the TNX rise back above 2.23% sooner rather than later. Initial resistance is likely to be felt close to 2.21%. The best news for equity markets would be that yesterday's hefty decline in the TNX was a fake out and that the selling of treasuries that began in early October continues and the corresponding yield surges back to new recent highs. That's what I had expected prior to yesterday's ISM reaction. Now we'll have to wait and see.
The ADP employment report showed that jobs came in ahead of expectations. That was welcome relief as we didn't need to see another disappointing economic report - not if you're in the bullish equity camp as I am.
Like global markets, U.S. futures are mixed with just over 30 minutes to go before the opening bell. All of our major indices were higher this morning, but futures on both the Dow Jones and S&P 500 have moved into negative territory. The beige book will be released at 2pm EST so traders are likely to read into those minutes to see if they can uncover any further clues as to the Fed's intent. Fed Chair Janet Yellen will be speaking to the Economic Club in Washington at 12:25pm EST so that will likely attract scrutiny as well, especially on the heels of disappointing manufacturing data on Tuesday.
Current Outlook
Things just got very interesting. Yes, I am and have been bullish. Yes, I continue to see bullish developments in equities and in sector and industry group rotation. Yes, I know it's a very bullish time historically. But I also know that the treasury market is smarter than the equity market and there was a very negative reaction to yesterday's ISM report. Perhaps it's just a blip on the radar and we'll continue to see economic improvements to justify an FOMC announcement in a couple weeks to hike rates a quarter point as advertised. But I will keep one finger on the equity sell button in the event that Friday's jobs do not turn out as expected or if we see technical price action on our major indices that don't make sense - like the loss of rising 20 day EMAs on increasing volume. We saw how quickly the market turned sour in September when the traders lost confidence in the Fed and how quickly volatility spiked. Tuesday's action in equities saw a significant drop in the Volatility index ($VIX) and that's a great sign for a continuing market advance. Clearly, we're seeing mixed signals right now and that's confusing. I am remaining bullish but I've put the rose-colored glasses down for the moment and will move quickly if the stock market begins to deteriorate given the developments in the treasury market. Take a look at the 9% drop in the VIX on Tuesday:
The interesting part of this chart is the initial reaction at 10am EST. It was consistent with the treasury market's reaction. Poor economic news should send yields and the S&P 500 lower and the VIX soaring. As you can see from the initial arrows at 10am and for perhaps the next 15-20 minutes, that's exactly what we saw. But for the balance of the day, it was as if that economic news was swept under the carpet. Volatility tumbled and the S&P 500 soared. The only thing I can say is that we haven't seen an equity market breakdown so I'd watch for one of two things to occur in the days ahead - either we see a price breakout to new all-time S&P 500 highs accompanied by strong aggressive sector action (bullish) or failure to hold rising 20 day EMAs (more bearish given the treasury market development).
I'll remain bullish, but my risk antenna is rising - at least temporarily.
Sector/Industry Watch
Healthcare led the action on Tuesday and a prominent breakout occurred in pharmaceuticals ($DJUSPR). It was the type of breakout that can be a game changer in the weeks ahead. Price action has moved above key moving averages on the weekly chart and could be in the process of forming a long-term cup with handle. Below is a picture of the daily chart, where a key price breakout occurred. Have a look:
Condtions have certainly improved technically and I'd look for this group to continue to perform well with the rising 20 day EMA offering support on any period of selling or consolidation.
Historical Tendencies
December started on a positive note, as it generally does. The first week of December is typically quite bullish, as evidenced by the following annualized returns on the Russell 2000 (since 1988) for the balance of this week:
December 2 (today): +140.72%
December 3 (Thursday): +0.40%
December 4 (Friday): +35.41%
Key Earnings Reports
(actual vs. estimate):
GIII: .85 vs .78
RY: 1.32 vs 1.23
(reports after today's close, estimate provided):
AEO: .34
ARO: (.34)
AVGO: 2.19
PVH: 2.49
SNPS: .34
Key Economic Reports
ADP employment report released at 8:15am EST: 217,000 (actual) vs. 183,000 (estimate)
Q3 productivity released at 8:30am EST: +2.2% (actual) vs. +2.2% (estimate)
Beige book released at 2:00pm EST
Happy trading!
Tom
