Market’s 19th Breakdown Sees Bulls Unmoved as Trillions LostWhitney Kisling and Nikolaj Gammeltoft
Eighteen times Michael Shaoul has watched the U.S. stock market lose 5 percent or more since 2009. Eighteen times he’s been rewarded for holding on.
The bulls are being tested anew by a retreat that started in emerging markets and has since spread to developed countries, erasing $3 trillion from global equity values. Again, Shaoul’s Marketfield Asset Management LLC isn’t selling.
“This is a real bull market,” Shaoul, whose assets under management have risen to $21 billion from $400 million in 2008, said in a phone interview. “What happens in real bull markets is they do fine, and then they are occasionally interrupted by an exogenous shock.”
It’s never easy, Shaoul says -- the threat posed by emerging markets is the greatest he’s seen since 1998, and declines may worsen. Still, while U.S. stocks are being dragged down, the things that have kept market dips shallow in developed countries are intact. Corporate profits rose the fastest in two years last quarter, economists boosted projections for U.S. gross domestic product the first time in four months, and money-market indicators show no signs of strain.
“This episode will have a distinct beginning, middle and end,” said Shaoul, chairman and chief executive officer of New York-based Marketfield, whose MainStay Marketfield Fund has beaten 99 percent of its peers the last three years, data compiled by Bloomberg show. “The end of it will be a significant buying opportunity in the U.S.”
Stocks around the world are plunging after Argentina unexpectedly devalued the peso, Turkey’s decision to double interest rates backfired and China’s manufacturing growth slowed. A report this week showed U.S. factory output expanded in January at the weakest pace in eight months and China’s official Purchasing Managers Index fell to a six-month low.
At the same time, the Federal Reserve is lowering stimulus that helped propel global equity gains of 123 percent the last five years. At its peak in January, the S&P 500 had rallied 173 percent from its 2009 bottom, a bull market that was almost a year older than the average since World War II.
Developed nations are falling with emerging counterparts this year, including an 11 percent loss for Japan’s Topix Index and a 4.2 percent decline in Germany’s DAX Index. The MSCI Emerging Markets Index lost 8.4 percent. The S&P 500’s 5.8 percent retreat from Jan. 15 to Feb. 3 is the biggest drop since June. The MSCI All-Country World Index dropped to the lowest level in almost four months on Feb. 3.
The global index slipped 0.2 percent to 384.14 at 10:19 a.m. New York time, while the S&P 500 lost 0.7 percent to 1,743.09.
“Every time it goes down you always wonder, ‘What the heck? Is it going to stop?’” said James Paulsen, the Minneapolis-based chief investment strategist at Wells Capital Management, which oversees about $359 billion. “I like buying on this fear of a crisis in the emerging world.”
Measures of volatility have declined. The Nikkei Stock Average Volatility Index fell 2.5 percent today after reaching its highest level since July yesterday. Europe’s VStoxx Index dropped 1.7 percent. In the U.S., the Chicago Board Options Exchange Volatility Index rose 5 percent to 20.06.
The selloff in developing countries reflects a worsening outlook for economies and earnings. The International Monetary Fund predicts that the growth advantage of emerging markets over advanced economies will shrink this year to the smallest since 2001. Profits will increase 18 percent in 2014, compared with 25 percent for the MSCI World Index, according to analyst estimates compiled by Bloomberg.
“There is a real possibility that this vicious cycle of rate adjustments in EM coupled with currency weakness will further postpone EM growth recovery,” Masha Gordon, who oversees more than $2.5 billion in assets as London-based head of emerging-market equities at Pacific Investment Co., said by e-mail yesterday.
A custom Bloomberg index of the 20 most-traded emerging-market currencies has fallen almost 8 percent this year. Argentina’s peso started sliding as the central bank pared dollar sales to preserve international reserves that have fallen to a seven-year low. The central banks of India, Turkey and South Africa all raised interest rates to defend their currencies as they tumbled.
“We have now had a meaningful pullback, but not sure it is enough given the turmoil in emerging markets,” said Howard Ward, the chief investment officer for growth equity at Rye, New York-based Gamco Investors Inc., which oversees about $40 billion. “We may need to go a bit lower.”
While developed equities have tumbled, it’s happening as earnings and economic growth pick up speed. Companies from Bank of America Corp. to PulteGroup Inc. posted profits that beat analyst forecasts. The U.S., Japan and the euro area will all expand next year for the first time since 2010, according to economists surveyed by Bloomberg. With three of the four biggest economies, those regions account for about 50 percent of the world’s GDP.
“The U.S. is still a leadership market and for years to come,” Bob Decker, senior portfolio manager at Aurion Capital Management Inc. who helps manage about C$6 billion ($5.4 billion), said in a phone interview from Toronto. “The economy is still moving in the right direction, monetary accommodation by central authorities is still relatively benign and plentiful liquidity exists. And that’s an environment where stocks typically do well.”
Economists are more bullish than they were when the S&P 500 was on the brink of a bear market in 2011. The IMF raised its global growth projection to 3.7 percent from an October estimate of 3.6 percent on accelerations in the U.S. and U.K. The average projection for 2014 U.S. GDP growth is 2.8 percent, up from 2.6 percent at the start of the year. In 2011, forecasts had tumbled to 1.6 percent from more than 3 percent as stocks retreated on concerns about Europe’s debt crisis and the U.S. losing its AAA rating from S&P.
Profits expanded 8.3 percent last quarter, the most since the three months ending September 2011, according to analyst estimates compiled by Bloomberg. Analysts project profits will expand even faster in 2015, at an annual pace of 11 percent, Bloomberg data show.
“I believe in investing in the future of the U.S.,” said Rick Caruso, chief executive officer and founder of Los Angeles-based Caruso Affiliated Holdings, one of the largest privately held U.S. real estate companies. “Sure, we have to keep an eye on what’s going on around the world. But companies that are based in the U.S., that have great products you understand in markets you know, I think those stocks will continue to do well.”
The dollar Libor-OIS spread, a gauge of banks’ reluctance to lend, averaged 15.1 basis points so far this year, nearly matching its average for all of 2013. This gap between the three-month London interbank offered rate and the overnight index swap rate surged to a record 364 basis points in October 2008, following the collapse a month earlier of Lehman Brothers Holdings Inc.
The difference between the U.S. two-year interest rate swap rate and the comparable-maturity Treasury note yield, known as the swap spread, is at 13.6 basis points. The spread, viewed as an indicator of investors’ perception of U.S. banking sector credit risk, reached a record 167.3 basis points in October 2008.
“There are no signs of stress in U.S. money markets,” Brian Smedley, an interest-rate strategist at Bank of America in New York, said in a telephone interview. “In fact there is so much cash in the system that the biggest problem in the short-term markets remains low rates. There is little evidence thus far that concerns about emerging markets have filtered into dollar funding markets broadly.”
The S&P 500 lost as much as 5.8 percent since reaching a record 1,848.38 on Jan. 15, the first decline of more than 5 percent since June 2013. Should they follow the pattern from the 18 times that’s happened since 2009, the S&P 500 would fall to about 1,697 in the next week, then rebound to a new high by mid-April, according to data compiled by Bloomberg and Bespoke Investment Group.
The equity index sank 19.4 percent between April and October 2011, the biggest retreat of the bull market, before rebounding. It fell 5.8 percent from May through June last year, when the Fed began hinting it would phase out stimulus.
“As short-term traders have seen prices break to the downside and support levels violated, money has moved out of risk assets to risk-off assets,” Walter “Bucky” Hellwig, who helps manage $17 billion at BB&T Wealth Management in Birmingham, Alabama, wrote yesterday in an e-mail. “For investors with a longer time frame, it’s a wait-and-see situation and certainly not time to pull the plug on risk assets.”