Yesterday, the markets closed lower. To the vast majority of the investing public, their knowledge of this fact stops at “The Dow Jones Industrial Average closed today down 116 points or around 0.76%,” as announced on TV and radio. It is fair to assume that the average NASDAQ.com reader is aware of that, but looking for a little more nuance. Well, if we dig a little deeper into the price action yesterday, there is plenty of nuance to be found.
In fact, I would say that yesterday the Dow Jones Industrial Average (DJIA) was a microcosm of the US stock market right now; a battle between bulls and bears, controlled by one underlying factor. When pundits give explanations for intraday market moves it is often funny in a frustrating kind of way. To hear that expectations for higher food prices in China or some such obscure driver caused a move down, when we all know it was because there were more sellers than buyers, can test your patience. I am generally more interested in what happened on any given day than why it happened. Intraday moves can easily be over analyzed. For me, however, yesterday was an exception. The “why” told an interesting story.
Futures indicated that the market would open significantly lower and indeed that was the case. This was an initial move caused by something that didn’t happen, rather than something that did. Overnight the Bank of Japan announced their intention to keep their level of bond buying steady. You would think this would be good news for markets generally. I mean, having two major economic powers both creating $85 Billion a month out of thin air and handing it to financial institutions should continue the upward pressure on stocks, right? Well, not if traders are in full Oliver Twist mode, plaintively crying out for more. Much of the market had convinced themselves that the BOJ was going to increase the level of stimulus, and positioned themselves accordingly. When no increase was forthcoming, they dumped their positions and downward momentum was created.
The somewhat overused analogy of the markets as drug addicts, constantly craving their fix from the Central Banks, looks apt here. Weakness in stocks wasn’t the result of a slowing economy. It wasn’t even an announcement of a reduction in QE. No, just the failure to jack up the dose caused a sell-off. In the long term this is worrying. There would seem to be no way of exiting QE before signs of significant economic strength, either in Japan or the US, without causing major disruption in the stock markets. As I said in my overview a couple of days ago though, as long as QE continues it is difficult to see a collapse in the near future. There is just too much money washing around the system.
The price action following the opening yesterday is a case in point. An opening down around 1% down became a buying opportunity. Prices recovered in the morning until it looked like we could even have an up day. Another wave of selling ensued, but once again, buyers were found on the dip, before the day finished with sellers gaining the upper hand overall. At the time of writing, futures are indicating that most of yesterday’s losses will be wiped out on the opening today, confirming the recent pattern. Any selling is greeted by a wall of cash desperately seeking a home.
We are in a situation where reaction to good news is solid and sustained, while reaction to bad is snuffed out fairly quickly. With each time this happens, it seems increasingly likely that it will continue until the flow of money is actually slowed. Failing to meet expectations, as the BOJ did yesterday, or talking about slowing, as the Fed did recently, will have an immediate effect, but limited medium term impact. Yesterday’s market and the early indicators for today show that that still holds. For investors, I believe the upside potential this creates is enough to compensate for the risk, at least for now.