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Market Update

Pushing Pause: Red Numbers Pop Up Amid Overseas Weakness, Policy Caution

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February 24, 2017

(Friday Market Open) Steep overnight losses in European and Asian markets may help set the stage for a lower U.S. open Friday, putting the Dow Jones Industrial Average’s ($DJI) 10-day streak of record highs in peril. Caution ahead of a policy speech by President Trump next Tuesday may also be playing a role in Friday’s weakness. 

Disappointing earnings reports from a number of major European companies helped contribute to pressure on stock indices across the Atlantic Friday, with some markets falling 1% or more. Many Asian markets also declined, and U.S. stock futures fell in pre-market trading. The red numbers on screens may look unfamiliar after the long rally, but it’s important to keep things in perspective and realize that even if the market is down today, it’s had quite an amazing streak of records.

Some of Friday’s weakness both overseas and in the U.S. may reflect some investors taking off risk and putting funds aside for new opportunities. A scheduled speech next Tuesday by President Donald Trump may also be contributing to caution and somewhat higher volatility in the markets. The speech, media reports say, could address topics like tax reform and infrastructure.

Trump’s pledge Thursday to bring more jobs sounded positive and may have helped give the markets a late boost. For now, investors seem willing to hang in there and wait for the administration to provide more details of its economic plans. Investors tend to want policy changes instantly, but based on what Treasury Secretary Steven Mnuchin said yesterday on CNBC, some of the economic policies promised by the new administration might not take effect until next year.

Over in the bond market, 10-year Treasury yields fell back below 2.36% early Friday after testing the 2.5% level recently. And gold launched itself to three-month highs above $1,255 on Friday after gaining nearly 1.5% on Thursday. The rising values of safe haven investments like gold and bonds may suggest investors are putting the possibility of a rate hike further off into the distance after somewhat vague language in the minutes from the Fed’s last meeting.

Odds of a March rate hike remained near 17% early Friday, according to the futures market. May odds fell to slightly under 50%.

Tech stocks, traditionally one of the sectors that attract more aggressive investors, broke their 15-day win streak Thursday, contributing to a moderate drop in the Nasdaq even as the DJIA and S&P 500 Index (SPX) pulled out gains.

Data is rather thin today, but new home sales are due at 10 a.m. ET.

S&P 500

FIGURE 1: PLAYING DEFENSE.

The S&P 500 Index (SPX), plotted here through Thursday on the TD Ameritrade thinkorswim® platform, is up more than 4% over the last month. Even so, defensive plays including gold (green line) and 10-year Treasury bonds (pink line) have also risen during that time, implying that some investors may be trying to protect themselves as stock indices continue to post record highs. Source: Standard & Poor’s. For illustrative purposes only. Past performance does not guarantee future results.

Oil Gets Trapped: It’s often said that shale oil is “trapped” in tight rock formations. Well, the word, “trapped” could also apply to the current crude oil futures market. Remember Dec. 15? That was the last time front-month U.S. oil futures fell below $50 a barrel. On a couple of occasions since, the price has topped $55 intraday, but hasn’t managed to close above that mark. All told, for more than three months now, futures have traded in that tight $50 to $55 range. It seems like every time the market rises on word that OPEC is sticking to its production cuts, the market then falls when U.S. production or stockpile numbers go up. It’s like tug-of-war, and this range-bound trading means oil has had less effect on other markets, like equities.

Fed Seems Surprised by Low Volatility: Implied volatility, as measured by VIX, rose above 12 early Friday but remains low historically. And the Fed is taking note. Fed officials expressed surprise, according to minutes of its last meeting, that with so much political change, the markets haven’t been factoring in possible dips and valleys in the near future. In fact, the word the Fed used to describe this was “concern.” Namely, Fed officials seemed to worry that the current placid environment might cause some investors to take on more risk than they should. Confidence may be nice, but you can have too much of a good thing, the Fed seems to be saying. With this in mind, it might be prudent to take the Fed’s words to heart and consider diversifying, and not going “all in” to the stock market when it’s at or near all-time highs.

Tax Reform By August? A couple weeks ago, stocks rallied after President Trump said he’d deliver a “massive” tax plan and gave a timing of two to three weeks for more details. But on Thursday, Treasury Secretary Steven Mnuchin said on CNBC that he wants to see "very significant" tax reform passed before Congress' August recess. While that doesn’t necessarily mean that details won’t be released sooner, August may be farther out than some investors had expected.

Good Trading,
JJ
@TDAJJKinahan

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