- Deterioration of the Crimea crisis after referendum results likely to bring sanctions and Russian counter actions, placing new obstacles before the global economy.
- Controlled situation could deteriorate further if Ukraine defends its territory via military intervention.
- Largely unaffected stock market must quickly incorporate a suddenly severely altered global environment.
Steer clear of U.S. stocks and the SPDR S&P 500 (NYSEARCA:SPY) this week, for trouble looms for the market and the ETF that tracks it. The same catalyst that has me beckoning my investment kin to buy the SPDR Gold Trust (NYSEARCA:GLD) and gold drives me to deter them from stocks and the SPY. It's the 500 pound gorilla in the room that traders had avoided up until late last week. This crisis in Crimea has progressively deteriorated and could turn from controlled to chaotic literally overnight. With too many wild cards in play, I see a high probability for a serious market correction as early as Monday.
The SPDR S&P 500 showed important signs of market disintegration late last week when it became clear to even those in denial how serious the situation might become in Ukraine. Up until recently, the market hardly seemed to notice the issue, despite my early warnings. The one-year chart of the SPDR S&P 500 clearly shows what I believe is a greed-driven denial of the crisis.
It has hardly moved stocks, and yet it is important enough to drive presidential news conferences, hours' long conversations between top diplomats, threats of sanctions, movement of military assets and the very real possibility of a war that could get complicated. You get my point, and still, the SPY ETF that tracks the S&P 500 is only 2.3% off its 52-week and all-time high.
Sunday, the referendum on the independence of Crimea went off swimmingly for Russia, with a reported overwhelming majority vote approval of the region's secession from Ukraine and alignment with Russia. So what comes next then? Well, the west is threatening sanctions and Russia is threatening to turn the natural gas off, some of which runs through the Ukraine to fuel the EU. The global economy therefore faces a serious speed bump, and for Europe's struggling economy, a big pot hole. But that is not even the worst case scenario.
What if the presumed here annexation of Crimea meets with resistance from Ukraine? Would the west just sit by and watch a massacre on what it has clearly labeled an illegal violation of the sovereignty of Ukraine? I think not, and it's a deeply troubling thought.
The situation is becoming too real for American investors to deny any longer. If it deteriorates further, I expect (not suspect) the market will correct in a significant manner. I believe we've already seen early signs of an impending crash. Gold has steadily risen while stocks have meandered upward and downward on news bits. Also importantly, momentum leaders with extended valuations have seen heavy profit-taking of late. Compare the recent performance of the SPDR S&P 500 to that of Tesla (NASDAQ:TSLA), Facebook (NASDAQ:FB) and Netflix (NASDAQ:NFLX).
The high flyers are backtracking big-time now. Call them the canaries in the coal mine. They are the beta testers for the broader market, literally. The beta coefficients of these securities are going to be well above 1.0 and reflect their exaggeration of market behavior. In this case, I believe they are also offering an early look into the future of the broader market. Investors in these stocks realize the valuations are questionable, and so, they are also vulnerable to stock, industry and economic shocks. The sensitivity of these canaries offers us a warning about our potentially ominous fate should this geopolitical scenario play out poorly.
Since February 28
SPDR S&P 500
SPDR Dow Jones (NYSEARCA:DIA)
PowerShares QQQ (NASDAQ:QQQ)
The table above here shows the performance of the three regularly quoted and used market ETFs alongside three high flying momentum names, Tesla , Netflix and Facebook . Obviously, company specific issues are also driving these stocks, but that's why I use three of the most widely followed ideas here to make my point. And if we look at the Nasdaq tracker, the QQQ, we see its underperformance has exaggerated that of the slower moving indexes of the Dow and the S&P. It's to be expected as well, given its components are generally seen as riskier investments; we can consider it a bigger pool of names similar to my three-stock sample group. I want to remind readers that if by some miracle the course is completely altered in the Ukraine and the situation is mitigated, the high beta, high flyers will outpace the SPY on the upside as well.
Unfortunately, the situation has progressively deteriorated, and judging by the stark expressions on the faces of John Kerry and Sergei Lavrov on Friday, I think it's about to get worse. The referendum played out as expected. Over the next day or two, the voting samples and exit polls will likely be replaced by cold hard facts showing the Crimean people voted to secede. In my opinion, this leads to the broader movement of Russian troops into Crimea to honor the will of the Crimean people, to paraphrase Lavrov. In my view, that brings sanctions from the west and perhaps gunfire from the Ukrainians, and an unfortunate stock market crash for the rest of us alongside serious economic repercussions. So, dear friends, that is why I say steer clear of the SPDR S&P 500 for now and stocks broadly. If you are not willing to do so, then consider hedges against the geopolitical risk using the SPDR Gold Trust and the ProShares Ultra Short S&P 500 (NYSEARCA:SDS). You might say a prayer as well.