Pullback (Here We Go Again)

“Is this the start of a new decline in stocks?”

That’s the #1 question our subscribers are getting from their clients today.

And, it prompted one long time subscriber from Merrill to write me an email this morning with the subject line:

“Here We Go Again.”

That’s how he felt when he got the Sevens Report this morning at 7 AM EST and saw in our “Pre 7:00 Look” that S&P 500 futures were down by nearly 2%.

And, it’s understandable that all of us (advisors and their clients) would feel that way, especially after we enjoyed three weeks of relative calm in the markets following the horrific declines of August.

But the truth is there are worrying signs out there right now:

  1. The Fed decision last week has increased uncertainty and
  2. Our two leading indicators, which predicted the declines in August, are showing signs of rolling over. 

But, it’s still too early to definitively say whether this is just part of the bottoming process, or the start of a new decline in stocks.

Our job during times like this is to eliminate the information overload, cut through the short term noise each trading day and deliver the unemotional fundamental and technical analysis that can help our paid subscribers reassure clients, protect portfolios and seize opportunities across asset classes:

  • Stocks
  • Bonds
  • Currencies
  • Commodities

And we are delivering this macro research each day at 7 AM because as we saw again this morning with global markets plunging, this is a quickly changing landscape and waiting a few days for a macro update from the firm’s CIO or global strategy team simply isn’t going to cut it.

Over the past 4 trading days we’ve made sure that our paid subscribers have known:

  • What The Fed Decision Meant for Markets (It’s Not Positive)
  • Why We Could See Stocks Test the August Lows
  • What Needs to Happen for this Correction to End

They’ve had this information spelled out for them in plain English, at 7 AM each day, along with a clear conclusion regarding whether we think this is the start of a bear market (we do not).

We did this so that when clients call in a panic, our subscribers can show them that they 1) understand what is happening in markets, 2) know what it will take for a bottom to form, and 3) have a plan for their portfolio depending on what happens.

Our subscribers are using this opportunity to solidify relationships with new and old clients by demonstrating their control of the situation, and we believe that will lead to more lifelong clients and greater referrals.  Now is the time to do the work that will help your business for years to come.

The chances of a test of the recent lows in the S&P 500 have increased since last week. 

Earlier this summer we identified two key ETFs that have acted as leading indicators for stocks and last week they started to roll over.  In Monday’s Report we alerted subscribers to this and again provided an inverse ETF that successfully protected portfolios during the August declines. We have included an abbreviated version of that analysis in an excerpt below:

Leading Indicators are Rolling Over (and That’s Not Good)

Our two leading indicators continue to be an excellent forecaster of near term market direction.

These ETFs bottomed three weeks ago and have been consolidating that bounce for the last week, just like the broad stock market.

But, late last week both leading indicator ETFs began to fail at resistance, and both look like they are rolling over, which is a worrying sign for stocks.

Leading Indicator #1:  A Real Time Barometer on China and Global Economic Growth Fears

This leading indicator is a specific commodity ETF that has large exposure to specific industrial commodities – which are a proxy for:

1) Chinese growth and

2) Emerging market sentiment.

It has been a strong leading indicator for China in 2015 as it broke a four month uptrend in early July, right before the rest of the market got dragged down by “China” worries.

As the chart above shows, this leading indicator broke a 2 month downtrend, but it is now retesting that breakout, and if it cannot hold the $15.00 level that will be a negative signal for risk assets.    

Leading Indicator #2:  A Real Time Measure of Financial Stress in the US

With oil plunging to fresh, 6 ½ year lows below $40/bbl. in late August, concerns continued to rise that we will start to see stress in the junk bond markets, as a lot of risky “junk” loans have been extended to small oil companies over the past several years and bought up by bond funds who were starving for higher yield, and the health of those loans was beginning to come into question.

The potential exists for a stampede out of overvalued junk bonds that could grow into a bigger bond crisis here in the US, given the still over owned nature of bonds.

To monitor this risk, we are watching a specific bond market ETF that has been a fantastic leading indicator of market pullbacks for over a year, and it correctly forecasted the July 2014 pullback, the Sept/October 2014 pullback, and the December/January 2015 pullback.

Most importantly, though, it’s also bottomed each time before the broad market, and we expect that to happen again this time. Unfortunately it has not yet broken through resistance and still has some work to do on the charts in the near term.

This chart above is particularly worrisome, because this leading indicator ETF appears to have failed right at the downtrend and is now rolling over badly, implying the bottom is not yet in – and that is a bad signal for stocks.

Bottom line, both of these leading indicators are potentially rolling over, and if they do, that is a negative signal for the stock market.   

No one can know for sure at this point whether this is just part of a bottoming process or whether these leading indicators are going to hit new lows.  And, that’s why we are focused on key leading indicators for the two risks to this multi-year stock market rally.  Those leading indicators are in the commodity and bond markets, and you need to have an analyst who knows those markets and who is watching those indicators for signs of further stress or for signs of a bottom. 

Because of the concerning signals from these leading indicators, in Monday’s paid edition of The Sevens Report we again identified an ETF that successfully protected portfolios during the August declines, and will do so again if the stock market sells off further. 

During the August declines, this ETF rose 15%, protecting portfolios from the volatility.

During the last two weeks, this ETF has declined as stocks have risen, but today is it up more than 2.50% and remains an attractive way to protect portfolios against a further China/bond market inspired decline in stocks. 

Our paid subscribers know that we will tell them when those indicators in commodities and bonds go from flashing a “warning” sign to flashing a “crisis” sign and that we will give them specific ETFs that can protect portfolios should things get worse.

Given the return of market volatility I am extending a limited time, special offer to new subscribers of our full, daily report that we call our “2 week grace period.” If you subscribe to The 7:00’s Report today, and after the first two weeks you are not completely satisfied, we will refund your first quarterly payment, in full, no questions asked.

Click here to subscribe and get our two leading indicator ETFs and hedge ETF.

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Tom Essaye,
Editor of The 7:00’s Report

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