Market Slice: Nobody Likes an I-Told-You-So

 

What to expect in this week’s Market Slice:

  • FFR Trading launches free, new Concierge service
  • How this week’s continued decline has taken the S&P below the 50-day moving average
  • China’s housing market slump becomes a real issue

With the U.S. Labor Day holiday coming up next week, Market Slice will be taking a publishing break. We will be back with our next issue on September 15. Instead of publishing our weekly letter, we are launching our new Concierge service next week. If you haven’t signed up yet, do it now. It’s totally free. You’ll get a complimentary copy of our e-book, How to Avoid Getting Burned in the Markets, when you sign up… and regular research updates, market analysis and product reviews as they become available!

 

As We Were Saying

When we went to press last week, the market was caught in the irrational expectation that Friday’s Jackson Hole statement would find Fed Chair Powell issuing a dovish proclamation. Mr. Market seemed to think that scattered signs of economic weakness and a slowing rate of inflation would be enough to catalyze the much-anticipated “Fed pivot.”

Image courtesy of imgflip.com

Clearly, those hopes were misplaced. When Powell came out with a warning of “some pain” ahead, the stock market tanked. And now, after Tuesday’s close, we are down more than 5% since Powell’s announcement.

Inflation remains a major issue, despite President Biden’s erroneous assertion that we had “no inflation” in July (what he was attempting to say is that the month-over-month inflation rate was unchanged). And despite repeated assertions by even the most dovish Fed governors that the fight to rein in inflation would remain the primary driver of Fed policy, the market believed otherwise.

This shows the absurdity of the so-called “efficient market hypothesis,” which holds all available information is already incorporated in stock prices. In reality, markets are often driven by emotional, subjective factors…which was vividly demonstrated by last week’s runup, followed by the current dip.

The point we made in last week’s issue was a simple one: there is too much wrong in the economy for equities price to undergo a fundamental shift to a bull phase. We thought – still think – there remain several obvious structural problems that must be resolved before this bear market can end.

 

 

Key Levels Signal Breakdown?

Last Thursday’s rally took the S&P Index right back to the critical 4200 level we talked about last week… then Friday’s selloff dramatically repudiated the attempt to break back through. Even worse for the bulls, this week’s continued decline has taken the S&P below the 50-day moving average (purple line below.)

Chart courtesy of themarketear.com

This decline also broke through the upward trend line off the June bottom. If the market ends the week below this line, the technical evidence for a larger move down will be overwhelming.

The NASDAQ ‘s plunge through the 50-day line was even more pronounced. With the psychologically critical 12200 mark in sight (first horizontal line on our second chart) and scant support beneath that level (the second line is at 11600), it could be “look out below” time for the mega-cap tech index.

Chart courtesy of themarketear.com

So as we were saying, there is no reason to believe the near-term direction of the market – as well as the overall trend – is anything but down. This doesn’t mean there won’t be more rallies as the bear market continues to unfold. That’s the nature of the beast. But there’s no reason to expect a full turnaround anytime soon… unless and until we actually do see a major policy shift from the Federal Reserve.

 

Is The Housing Bubble Popping?

The U.S. housing market represents over $3.5 trillion in market capitalization. With industries from construction to building supplies to mortgage lending to real estate sales all dependent on rising home prices and increasing sales, the prospect of a major collapse in housing is daunting.

But with interest rates on the rise, mortgage rates are following suit… and home buying is stalling out.

Image courtesy of https://www.bankrate.com

Here’s how bankrate.com summarizes the change in rates:

“Mortgage rates are all about inflation,” says Dick Lepre, loan agent at CrossCountry Mortgage in Alamo, California. “Investors have lost what confidence they had that inflation could be controlled.”

The Fed’s second consecutive rate hike of three-quarters of a percentage point would seem to create upward pressure on mortgage rates. The Fed doesn’t directly control fixed mortgage rates; the most pertinent number is the 10-year Treasury yield, which has bounced around in recent weeks.

A year ago, the benchmark 30-year fixed-rate mortgage was 3.04 percent. Four weeks ago, the rate was 5.76 percent. The 30-year fixed-rate average for this week is 2.81 percentage points higher than the 52-week low of 3.03 percent.

On a $400,000 house with a 20% down payment, this adds up to a $500 difference in monthly payments. Considering many homeowners were already stretching their budgets to buy at previous rates, and with housing prices at all-time highs, it’s easy to see how this rate increase could dent home buying going forward.

One problem with inflation statistics is they trail actual developments in the economy. The rapid increase of interest – and mortgage—rates over the past few months has not yet shown up in the numbers used to evaluate the health of the housing market… but some statistics are already flashing a serious warning of trouble ahead.

Eric Basmajian of EPB Macro Research authored a detailed and well-reasoned article outlining the dangers facing the housing market this week. The entire article is worth reading: Will This Housing Downturn Be Worse Than 2008?

Basmajian examines leading indicators (rather than trailing ones like mortgage rates and inflation numbers) to assess the state of the housing market right now. These include home price growth, debt levels, and Federal Reserve policy.

He focuses on new home inventory rather than sale of existing homes because of the economic activity and jobs associated with home construction…and there he finds an inventory glut combined with rising rates and household budgets impacted by inflation, and observes that:

The pace of sales volume is completely collapsing today and there’s no signs of a slowdown in the pace of decline. The volume of new home sales is down 51% since August 2020. In 2008 and into 2009, new home sales fell by 70% so it’s not quite as bad yet, but we haven’t hit bottom yet.

The implications of a housing downturn along the lines of what we saw in 2008-09, especially considering the vastly expanded monetary supply and debt loads we see today, are profoundly disturbing. If housing craters, the entire U.S. economy will be in mortal danger.

Don’t look for existing homes sales to save the day, either. Last week Zero Hedge highlighted the negative impact of mortgage rate increases on affordability: “We’re Witnessing A Housing Recession”: Existing Home Sales Crater 20% In July As Affordability Collapses.

Here’s a video presentation of Basmajian’s analysis. Click on the image to view on YouTube. 

 

Then There’s China

As bad as things might look for the U.S. housing market, China’s got it worse.

Much, much worse.

Last November, we talked about the Evergrande debt crisis, which created a momentary wave of panic before receding from the news. Nonetheless, we observed, China’s Real Estate bubble, with its massive attendant debt, has enormous implications for U.S. and world markets.

We also made a comparison to the Lehman Bros collapse in 2008, which gave rise to the term “Lehman moment,” invoked by pundits when speaking of Evergrande.

Here’s how we explained it then:

When this story hit the news a couple weeks ago, there was a momentary panic. Pundits started talking about a “Lehman moment,” referring to the collapse of investment giant Lehman Bros, which signaled the onset of the global financial crisis in 2008. But the Lehman moment, when the biggest-ever bankruptcy was filed on September 15, 2008, was not an isolated event.

It was preceded by months of troubling signs, as shown on this chart:

See more: https://www.researchgate.net/figure/Lehman-Brothers-Stock-Price-and-Timeline_fig2_265742944

In other words, Lehman was in trouble long before the bankruptcy that led to the 2008 meltdown. And just like in the months leading up to the Lehman collapse, there’s no shortage of politicians and policy-makers assuring us that “there’s very little chance of contagion at this time.” Hmm.

What will it mean for markets as the Evergrande debacle – which also involves dozens of other deeply indebted real estate firms in China, and their lenders — unfolds in the months ahead?

Now it looks like the next chapter in the unfolding cratering of China’s debt-laden real estate market is unfolding.

This article from Epoch Times, authored by Daniel Lacalle, outlines the impact of a continued slump in China’s real estate market for that nation. If anything, Lacalle perhaps underestimates the depth of the crisis… and he doesn’t speak to the interconnectedness of China’s real estate-based economy with global finance or the investment interests of U.S. mutual fund and pension fund investors.

One of YouTube’s biggest “China bears” is Max at Stoic Finance. He’s been proclaiming the collapse of China and the demise of the Communist Party of China for a long time.

While there’s a certain “stopped clock” aspect to his analysis, this video goes to the heart of why the Chinese real estate economy is untenable. What appears clear now is the “contagion” we spoke of in November – not only into the broader Chinese economy but to the entire global financial system – seems closer than ever.

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