Resist the Impulse

Here are some notes on the recent market and coming week.

— The highlight of the coming week for markets will be the Federal Reserve meeting that concludes Wednesday. Deutsche Bank economist Joseph LaVorgna is looking for a more cautious tone “given the sharp decline in global equity markets and further appreciation of the dollar.”

— Other economic data points to watch include Q4 GDP and the employment cost index (Friday), durable goods orders (Thursday), and consumer confidence (Tuesday). On the earnings front, watch for results from Apple (AAPL) on Tuesday, Boeing (BA) on Wednesday, and Amazon (AMZN) on Thursday.

— Crude oil gained 20% on Thursday and Friday, its biggest two-day jump in history. Increases in price of 10% or more from a low have, in three out of the past four cases, marked the end of major bear markets for the commodity, according to SentimenTrader — leading to gains of more than 33% over the next three months. The years were 1986, 1990, 1998 and 2008.

— The Russell 2000 Index, the measure of U.S. small caps, sank to a level 21% beneath its July high in the middle of last week, meeting the traditional standard of a bear market. The equal-weight S&P 500 (RSP) was down 16% at its worst, while the regular S&P 500 sank 12.8% at its worst.

— Although the broad market has not met the traditional standard of a bear market, it has met several of my own criteria, such as sinking under its 12-month average.

— At least 40 stock markets around the world with a total value of $27 trillion are in bear territory, according to Bloomberg. The UK was the latest to fall into bear territory, and India is close. Near the threshold, but not fully engulfed in flames, are Australia and the Czech Republic. New Zealand and Hungary are putting up the best resistance, limiting losses to less than 7%.

— Bear markets are all about preservation of capital. You need to resist the urge to buy dips and to consider your favorite stocks bargains because they look cheap.

— And you need to resist the impulse to think it’s all over because the market has risen 1% or more two days in a row. The biggest advances in DJIA history all occurred during bear markets because of the heavy short-covering. Just remember that bear markets are about liquidation, not accumulation.

— All veteran investors have their own views on what makes for an all-clear signal. But if you want to keep it simple, just wait for the S&P 500 to trade above its 12-month average again, preferably for two months in a row. Following the last big bear market that happened in July 2009 at around the 1,000 level, the bull market went on to run for another six years.

— Speaking of bottom calls, I have seen experts insist we have seen the end of the crude oil bear market after every two- or three-day advance. However, the Saudis still say that they plan to keep the pressure on American unconventional oil companies — i.e. the shale frackers — till they go broke. They’ve taken it this far, and they mean business, so don’t fade them. The Saudis can still reportedly make money on crude at $15/barrel, while break-even for U.S. frackers is $40. This is one of the dirtiest, rottenest, most contemptible, global business ploys the world has ever seen. You’re witnessing history.

— The frackers might not go broke as fast as the Saudis expect, however. The Dallas Fed has reportedly instructed banks in its region to order asset sales by distressed energy firms rather than forcing bankruptcies, delaying the outcome the Saudis are looking for. TIS Group notes that the real loser in this game would be Russia, which has seen the ruble crash along with its economy. Most experts do not believe the Russians could survive $10-$20/barrel oil prices, nor could Brazil or the Persian Gulf sheikhdoms.

— There is some speculation that the Russians would stir up a new Mideast crisis that threatens the area’s energy supply in a crass attempt to boost the risk premium of crude oil and thus boost their own fortunes. Don’t think they wouldn’t do that. They would.

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— A sizeable bounce in global and U.S. markets is overdue — possibly one that takes benchmark indexes back up as high as 2,000 for the cash S&P 500, or even to test the “dome of doom.” Markets are equal-opportunity destroyers of human will, and it is probably now short-sellers’ turn to feel the pain of their convictions.

— The rally will likely fall well short of the dome as eurozone, emerging markets, China and Japan are in wretched shape, and likely to drag down any recovery. Deflation seems like a beast from a bygone era, but the commodities markets warn that it is here. If the Chinese devalue the yuan further, watch out below.

Best wishes,

Jon Markman

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