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David Moenning is a the Chief Investment Officer at Heritage Capital, which focuses on active risk management of the U.S. stock market. Dave is also the proprietor of StateoftheMarkets.com, which provides free and subscription-based portfolio services. Dave began his investment career in 1980... More
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Daily State of the Markets
  • 10 Bear Market Catalysts To Watch For 2 comments
    Apr 29, 2014 8:05 AM

    Daily State of the Markets
    Tuesday, April 29, 2014

    To be sure, the current stock market environment is challenging. Intraday volatility is quite high, the major indices are not marching to the beat of the same drum, and holding the wrong stock or sector ETF has proved to be a frightening affair in 2014.

    In case you can't relate to this sentiment, check out the charts of the ETFs in Biotech (NYSE: XBI), Internet (NYSE: FDN), and Social Media (NASDAQ: SOCL) or names like Netflix (NASDAQ: NFLX), Amazon.com (NASDAQ: AMZN), Linked-In (NASDAQ: LNKD), Pandora (NYSE: P), Yelp, and Twitter (NASDAQ: TWTR).

    In short, the action has been more than a little scary at times. This is a market where it has been oh-so easy to lose money and with the exception of the strategy of being long only on Tuesday's (according to Bespoke, being long on Tuesday's would have produced a gain of 9 percent so far this year), making money has been downright difficult.

    Time For The Bears To Return?

    The action has left many analysts worried that the current bull market, which is clearly long in the tooth by just about any measure, could be slowly morphing into something far grizzlier in nature. As such, this might be a good time to review what might cause the bears to suddenly awaken from their hibernation and begin wreaking havoc on people's investment portfolios again.

    But before we get started on a review of potential bear market catalysts, let's remember that, as the chart below of the S&P 500 plotted weekly clearly illustrates, this remains a bull market.

    S&P 500 Weekly

    However, if investors have learned anything over the last 15 years, it is that (a) all good things come to an end and (b) bear markets are no fun (and should be avoided if at all possible).

    So, given that this bull has run a long way and as it can be argued, is looking a little tired, it is a good idea to be on the lookout for potential bear market catalysts.

    We've come up with about a dozen. So, let's review.

    Bear Market Catalysts

    Fed Surprise: Experienced investors know that markets don't like surprises - especially when it comes to the Federal Reserve. One of the oldest clichés on Wall Street is "Don't fight the Fed." Remember, the Fed usually gets what it wants. So, if Ms. Yellen and her merry band of central bankers suddenly have to make a course correction due to inflation or some such thing, stocks will NOT react well.

    Therefore, it is a good idea to listen carefully to everything the Fed says and writes these days. The bottom line here is that this bull has been sponsored in large part by the Fed's uber-easy monetary policies and the QE money printing programs. And while Bernanke and Yellen have gone out of their way to try and provide an expected course of action for the Fed to follow, if they were forced to take a different tack, well, it might not be pretty.

    A Real Crisis: Investors have grown accustomed to market crises over the past seven years or so. One could argue that traders even have a play book to follow whenever a crisis occurs. But this doesn't mean that stocks won't react - and react swiftly - the next time a real crisis comes along.

    We're not talking about the little hiccup seen earlier in the year that was caused by capital flowing out of the emerging markets. And we're not talking about what, so far at least, has been a relatively tame crisis in Ukraine.

    No, we're talking about a REAL crisis. A crisis that threatens the economy or, more importantly, the global banking system. Such an event would most certainly cause traders to get busy on the sell side again for a protracted length of time.

    Recession: The granddaddy of all bear market catalysts occurs when the U.S. economy encounters a recessionary period. When the economy contracts for two quarters or more, the amount of money investors are willing to pay for a dollar of EPS shrinks wildly. Suddenly, the idea of a growth premium is thrown out the window and investors are much more focused on the return OF their money than the return on their money.

    The good news is that there is very little chance of a recession at the present time. The soft-patch caused by the dismal winter appears to have ended and the numbers are starting to rebound. But investors should continue to be on the lookout for anything that suggest the current economic expansion might be slowing.

    Inflation: While it may be hard to argue that inflation in and of itself could be the sole cause a bear market in stocks, many bear markets have been accompanied by bouts of inflation. For the past five years, inflation has been almost non-existent and the Fed tells us that inflation is not going to be a problem any time soon.

    However, we must recognize that the economy IS improving and the Fed has been printing money hand-over fist for an inordinate length of time. And if you will recall from your Econ 100 course work, too many dollars chasing too few goods is the very definition of inflation.

    So, investors need to be on the lookout for the time when a whiff of inflation suddenly becomes a wave. Because as anyone who was around in the late 1970's can attest, once inflation starts to roll, it can be very tough to stop. The bottom line here is that if inflation - as measured by the CPI - starts climbing above 2 percent for a while, stocks could be in trouble as inflation has been one of the biggest historical catalysts of bear markets.

    Rising Rates: This potential bear market catalyst is really an offshoot of the "Don't fight the Fed" concept. In short, history shows that when rates are rising, stocks tend to underperform.

    This time around however, things are a little tricky as rates have been kept artificially low for quite some time. As such, most analysts agree that if there are no global crises and the U.S. economy starts to moves up in earnest, the only way for interest rates to go is up.

    10-Year Treasury Yields - Monthly

    Remember, if rates rise, interest-bearing instruments become competition for stocks. Thus, if rates were to break out of the long-term downtrend that has been in place for more than 20 years, it is easy to see why investors might start selling stocks. This is simply how the world has always worked. The bottom line here is if the monthly yield on the 10-year rises above 3.5 percent, it could be a big problem for the stock market.

    Next time, we'll look at another handful of potential bear market catalysts including wars, idiots in D.C., extreme valuation, time, and some technical breakdowns.

    Looking For Money Management Help?

    If you are looking for help with money management, check out Heritage Capital Management's Active Risk Manager Service - or call Heritage for more information at (630) 250-4700.

    ALL NEW: The Next Generation of the Daily Decision system is now available to clients of Heritage Capital. The upgraded system utilizes swing trading and mean reversion strategies during neutral market environments, multiple indices for long positions, incremental moves in and out of the market, multiple managers and multiple strategies - with the overall goal being reduced volatility, fewer and less impactful whipsaws, and a "smoother ride." To learn more about the "Next Generation" system, Read the Research Report

    Turning to This Morning...

    With tensions in Ukraine not escalating at the moment, traders appear to be in a better mood this morning. And the fact that it is Tuesday would seem to be helping the early sentiment as well. Bespoke Investment pointed out that if one had been long stocks only on Tuesday's so far in 2014, they would be up more than 9% year-to-date. Asian markets were mixed overnight, Europe is higher, and U.S. futures point to a stronger open on Wall Street.

    Pre-Game Indicators

    Here are the Pre-Market indicators we review each morning before the opening bell...

    Major Foreign Markets:
    - Japan: closed
    - Hong Kong: -0.98%
    - Shanghai: +1.45%
    - London: +0.67%
    - Germany: +1.14%
    - France: +0.41%
    - Italy: +1.60%
    - Spain: +0.90%

    Crude Oil Futures: +$0.56 to $101.40

    Gold: -$8.00 at $1291.00

    Dollar: lower against the yen, euro and pound

    10-Year Bond Yield: Currently trading higher at 2.727%

    Stock Futures Ahead of Open in U.S. (relative to fair value):
    - S&P 500: +7.62
    - Dow Jones Industrial Average: +55
    - NASDAQ Composite: +16.58

    Thought For The Day...

    Success has many fathers, while failure is an orphan. -English Proverb

    Positions in stocks mentioned: none

    Follow Me on Twitter: @StateDave


    The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning's opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report and on our website is for informational purposes only. No part of the material presented in this report or on our websites is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed nor any Portfolio constitutes a solicitation to purchase or sell securities or any investment program. The opinions and forecasts expressed are those of the editors of StateoftheMarkets.com and may not actually come to pass. The opinions and viewpoints regarding the future of the markets should not be construed as recommendations of any specific security nor specific investment advice. One should always consult an investment professional before making any investment.

    Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

    The analysis provided is based on both technical and fundamental research and is provided "as is" without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

    The information contained in this report is provided by Ridge Publishing Co. Inc. (Ridge). One of the principals of Ridge, Mr. David Moenning, is also President and majority shareholder of Heritage Capital Management, Inc. (HCM) a Chicago-based money management firm. HCM is registered as an investment adviser. HCM also serves as a sub-advisor to other investment advisory firms. Ridge is a publisher and has not registered as an investment adviser. Neither HCM nor Ridge is registered as a broker-dealer.

    Employees and affiliates of HCM and Ridge may at times have positions in the securities referred to and may make purchases or sales of these securities while publications are in circulation. Editors will indicate whether they or HCM has a position in stocks or other securities mentioned in any publication. The disclosures will be accurate as of the time of publication and may change thereafter without notice.

    Investments in equities carry an inherent element of risk including the potential for significant loss of principal. Past performance is not an indication of future results.

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Comments (2)
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  • tpdhanens
    , contributor
    Comments (5) | Send Message
     
    Can the Federal Reserve keep interest rates artificially low enough that the 3.5% threshold is not breached in the FORSEEABLE future; not soon enough to do us average older investors any good? That would benefit leveraged borrowers but not us poor "savers".
    29 Apr, 03:08 PM Reply Like
  • David Moenning
    , contributor
    Comments (480) | Send Message
     
    Author’s reply » Must remember that Fed can't control market rates. So, if economy improves and there isn't a "crisis" anywhere, look for rates to rise - which will help "savers"!
    2 May, 10:05 AM Reply Like
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