Investors are still reeling from the mayhem last week…
The Bank of Japan (“BoJ”) caused financial chaos as it unexpectedly raised its prime lending rate… and then walked back the prospect of future rate hikes.
Last Monday, the country’s stock market suffered its worst single-day decline in 37 years. Just one day later, it saw its best single-day gain since 2008.
Here in the U.S., the S&P 500 Index was already weakened by profit-taking in the tech sector. It then collapsed by 3% last Monday in the wake of the BoJ rate increase.
But by Friday’s close, it had regained all its losses.
Folks, we’re in the most challenging part of the presidential election-year cycle. And early August is normally a tough period for the stock market.
Looking ahead, September volatility is predictably harsh. I’m looking for a sell-off into early October as a major buying opportunity for a strong year-end rally.
But last week’s reaction to the BoJ’s rate hike pulled forward September’s extremely volatile price action. And that turned a pullback into a rout.
However, a volatile period doesn’t change my overall conviction…
Even considering last Monday’s carnage, the damage in the S&P 500 has been contained to a less than 10% decline intraday and a less than 9% drop on a closing basis.
That was from the index’s all-time high on July 16. As of yesterday’s close, the S&P 500 is down about 4% from that high.
Outside the beaten-down “Magnificent Seven” mega-cap tech stocks, the other 493 stocks in the index – as measured by the equal-weighted Invesco S&P 500 Equal Weight Fund (RSP) – are down only about 2% from all-time highs.
The real story in the markets last week was a huge spike in the CBOE Volatility Index (“VIX”)…
The VIX is often called the market’s “fear gauge,” since it measures expected volatility. Going into August, it was below 17. Last Monday, it spiked to above 60 intraday before settling at a still-elevated level of 39 by the time markets closed.
As of yesterday’s close, it was below 19.
So… what does it all mean?
In short, traders were nervous.
It was due to a highly questionable jump in the unemployment numbers above 4.3% (which may have been influenced by Hurricane Beryl in Texas) and a steep drop in the Japanese stock market.
By the end of the week, the large-cap indexes had regained all of Monday’s steep losses… while small- and mid-cap indexes performed even better.
In fact, more than $10 billion flowed into equity exchange-traded funds (“ETFs”) and mutual funds in last week’s report. Meanwhile, more than $6 billion flowed into U.S. equities… and $4 billion went into Japanese stocks. This marked the 16th straight week of inflows into equities.
So, to sum up…
Yes, traders are still fearful. We can see that through CNN’s Fear & Greed Index, which is a gauge of investor sentiment based on seven indicators. In its reading earlier this morning, the index stood at 25 out of 100.
That marks an “Extreme Fear” level – meaning sentiment is terrible. A week ago, the level was also at “Extreme Fear.”
Meanwhile, the VIX remains elevated from the late July lows.
But last week, “buy the dip” investors were a key stabilizing factor for the markets. Put simply, the market hasn’t run out of “bullish” investors.
Looking ahead, I expect typical September volatility and overly dramatic election-year headlines to wreak havoc with investor’s emotions…
But my conviction in a post-election rally remains firm.
I continue to expect a rally in the S&P 500 to the 5,800-to-6,000 level by the end of the year.
Good investing,
Marc Chaikin
