MARKETS DOWN MODESTLY AS CHINA DEVALUES ITS CURRENCY, YIELDS DROP AND EARNINGS SEASON WINDS DOWN
- Despite all the negative news this week – currency manipulations, trade wars, growth slowdowns and a flattening yield curve – the markets only finished modestly lower
- The S&P 500 lost 0.5%; the DJIA dropped 0.7% and NASDAQ declined 0.9% whereas the smaller-cap Russell 2000 Index dropped 1.3%
- Out of the 11 S&P 500 sectors, six of them finished lower as the Energy sector and Financials sector dropped 2.2% and 1.7%, respectively
- But five of the 11 S&P 500 sectors finished green, led by the defensive names as the Utilities and Real Estate sectors returned 1.0% and 1.8%, respectively
- The big event this week was China’s decision to devalue its currency – the yuan – in response to President Trump’s tariff threats
- The markets responded to China’s devaluation in a big way, losing more than 3% in their worst daily performance for all of 2019
- U.S. Treasury yields took a sharp downturn that further flattened the yield curve and the spread between the 2–year and the 10–year narrowed to its lowest since 2017, worrying some that a recession is around the corner
- The 2–year yield finished at 1.63% and the 10–year yield finished at 1.74%
- The U.S. Dollar Index fell 0.5% to 97.54
- WTI crude lost 2.0% to $54.61/barrel
- Gold was up 3.5% on the week
Weekly Market Performance
Stocks Down on China Worries
U.S. stocks ended the week down lower – after recouping some of the losses from the beginning of the week – including the markets’ worst one–day performance for all of 2019.
Volatility came roaring back, due to escalating trade tensions with China and bond yields falling to their lowest level in about three years.
Markets around the world fell sharply when China devalued its currency, which was clearly aimed at President Trump and the recently announced tariffs.
The day the Chinese government “announced” their intention, the DJIA dropped 767 points for a decline of 2.67%. NASDAQ – with its technology companies that would be most hurt by a trade war with China – fell 3.5%. The broad–based S&P 500 shaved off about 3%.
What the Chinese are Doing
The Chinese government devalued the yuan to fall below its 7:1 ratio with the U.S. dollar for the first time in 10 years. A weaker currency (in theory) will soften the tariffs implemented by the United States.
Theoretically, China’s large devaluation of the yuan will make exports cheaper for foreign consumers of Chinese goods, including Americans, but it will also reduce the purchasing power of Chinese consumers, who will likely consume less as a result.
The big worry for investors of course is that the U.S will impose more tariffs, China will respond with more devaluations and investors will see a ratcheting up of the trade wars between the two superpowers – which will then spill over to an already weakening global economy.
Just last Wednesday, the Fed cut interest rates by 25 basis points – the first time investors have seen a rate cut since the start of the last recession, more than 10–years ago.
Since last week, rates continue to drop and last week the 10–year note dropped below 1.7% for the first time in 3 years. Economists are worried that falling rates are a not–so–good sign and fear that if the yield curve inverts again (when long–term rates are lower than short–term rates), a recession is right around the corner.
But glass–half full economists remind inverted-yield-curve-doomsayers that unemployment is at a 50–year low (3.7%) and GDP is slowing, but still healthily above 2%.
Earnings Season is Winding Down
As of Friday, 90% of the companies in the S&P 500 have reported earnings for Q2 2019. From FactSet’s release dated August 9th:
- “In terms of earnings, the percentage of companies reporting actual EPS above estimates (75%) is above the five–year average.
- In aggregate, companies are reporting earnings that are 5.7% above the estimates, which is also above the five–year average.
- In terms of sales, the percentage of companies (57%) reporting actual sales above estimates is below the five–year average.
- In aggregate, companies are reporting sales that are 0.8% above estimates, which is equal to the five–year average.
- The forward 12–month P/E ratio is 16.7, which is above the five–year average and above the 10-year average.”
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