Small-cap stocks lead rebound after sell-off…
JJ Kinahan, Chief Market Strategist, TD Ameritrade
(Monday market close) Stocks started the week down, with the S&P500 (SPX) drops nearly 4% after the open. However, small cap stocks started the intraday rally with the Russell 2000 (RUT) is bouncing off its morning lows after falling 5.5% in the morning. The small cap index returned to positive territory and closed up 2.29% thanks in large part to energy stocks. The S&P 500 and the Nasdaq Compound ($COMP) were also able to bounce off their lows to close in positive territory.
The selloff and rally could be a sign of the capitulation investors have been hoping for. When they were finally caught in a corner with what seemed like a real panic sell, the bargain hunters seemed to have stepped in and started buying. It could also be a good sign that investors have started their bargain hunt with riskier small-cap stocks, showing that these stocks have fallen to valuations where the risk is low enough to make the companies attractive. Even bitcoin returned to positive territory alongside small caps, reflecting the shift in risk appetite.
Hopefully, over the next week, big business can show greater strength. They could get help from Dow Jones Industrial Average ($DJI) as half of them are reporting profits this week. In reality, International Business Machinery (IBM) reported after the closing bell and rose 6.79% on news that the company beat its profit and revenue forecast. The company was working on a recovery plan that seems to be taking shape, particularly in its cloud services division. The Dow Jones closed in the green despite falling 1,100 points during the day. He was helped by Home deposit (HD), which was trading up 4.21% on the day.
Despite the one-day rollercoaster ride, some stocks rallied. kohls (KSS) soared more than 36% on news that a consortium of activist investors led by Starboard Value LP offered a deal valued at $9 billion. Clothing stocks seemed to be hot because Difference (GPS) also rose 7.94% as some investors may believe it also has merger potential. Dominos Pizza (DPZ) rebounded 4.85% despite the lack of immediately related news.
Oil prices fell despite continued tension on the Ukrainian and Russian border. The US and UK have withdrawn some diplomats from Ukraine as NATO sends more ships and fighter jets to Eastern Europe. Rising tensions in the oil-rich region could lead to higher oil prices.
A week to test wills
It could be a big week for stocks with big hitters like Apple (AAPL), Microsoft (MSFT), and You’re here (TSLA) reports. Additionally, the Federal Reserve will meet this week and hopefully present a plan to raise interest rates in the near future; this could give investors confidence in their plan to fight inflation. While these news events are great for those of us who write market commentary, they could be headaches for investors.
Stocks like Apple and Tesla often provide insight into investor psychology, so this week could be an investor “vote of confidence” in market strength. Apple has been a mainstay for investors and has often shown strength relative to other tech stocks. Even with the recent pullback, Apple is down about 11% from the Nasdaq Compound ($COMP), which is down more than 16% from its highs. Tesla has been a kind of “buy the dip” action, and investors have been willing to go for it multiple times. However, with the Fed rising in rates, investors may not be so willing to drink from these wells.
Despite the huge rally at the end of the day, there is no reason for the volatility to subside. The bears may retaliate later this week on concerns over the earnings of tech companies, especially those dealing in the cloud. Fortunately, IBM was able to show progress in its cloud business, but Microsoft had a range that stretched over $20 on Monday.
The problem is rising rates and investors still trying to figure out valuations. Pandemic games were all over the map, with netflix (NFLX) down 11% to close down 2.60%. Zoom (ZM) rebounded 3.58%. Platoon (PTON) rose 9.79% as activist investors call for the CEO to be fired and the company to be sold. Finally, DocuSign (DOCU) also fell more than 7% but closed up 4.91%.
Correction Vs. Bear Market
As previously reported, the Nasdaq is in correction territory. A correction is referred to as a market pullback between 10% and 19%. A bear market is a declining market that has fallen by 20% or more. the Russell 2000 (RUT) The small cap index fell about 20% to its intraday low on Monday, which would have put it in bearish territory. All other major indices, including the S&P500 (SPX) and Dow Jones Industrial Average ($DJI) are close to correction territory.
A correction can be quite healthy for stocks in that it helps weed out overvalued companies and allows other stocks to return to their average earnings, or in other words, to trade more in line with the actual growth of their profits. A bear market is different in that it tends to signal that there may be something wrong with the underlying economy. Stocks are generally said to be about six months ahead of the economy.
The VIX (Cboe Market Volatility Index) can be useful to signal a correction from a bear market by paying attention to certain levels. In 2021, market declines often reversed when the VIX was near 30 (see below). However, in 2020, this level was around 40. And this level of 40 dates back to the previous two decades. The dotcom bubble burst and the bear market bottomed out shortly after the VIX hit 40. But the credit crunch of 2008 changed everything. The VIX can now break above 40 during a correction, and the last two bear markets have seen highs around 90 before creating lows.
The world’s central banks don’t seem to be speaking the same language as the US Federal Reserve talking about tightening the US money supply. European central banks are holding back their tightening for as long as possible. And Asian central banks are increasing their money supply to stimulate their economies.
The Federal Reserve is meeting this week to discuss its monetary policy plans. The Fed has significantly scaled back its bond-buying stimulus efforts and is expected to abandon them altogether by March. Next, markets expect the Fed to raise the policy rate by a quarter point in March. Indeed, the Fed fears that the higher inflation rate will become structural and not transitory.
European Central Bank President Christine Lagarde has rejected calls to raise rates to tackle soaring inflation and prefers to wait for inflation problems to correct themselves as chain bottlenecks erupt. supplies open and growers get back to work when the COVID-19 restriction is lifted in Europe. The biggest price increases are due to energy prices, so getting through the winter months could also be a big help. Lagarde said an important difference is that Europe doesn’t see the “excess demand” that the United States is experiencing.
Last week, the People’s Bank of China lowered several different interest rates in an attempt to spur economic growth. China is not experiencing the same degree of inflation as consumer spending has slowed, regulations have tightened and the housing sector is struggling. The housing market has been troubled by excessive borrowing from home builders and they now have to refinance the debt to lower levels, so that it becomes more usable.
These conditions are likely to push the US dollar higher, which has normally held back large- and mega-cap international companies and helped small-cap domestic companies. Perhaps the rally led by small caps this morning is a good sign that investors recognize the favorable position of the group.
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