Market Sees Worst Action in Months, Putting New Pressure on Labor Data

The recent market action is the worst in months. We have now had three consecutive days of poor action and Tuesday was the ugliest of the three. The drops in the indices are not huge but the Russell 2000 (IWM) is down about 2.9% in the last three sessions and 50.2% of all stocks are below their 200-day simple moving averages. The 200-day level means they haven’t gone anywhere in nearly a year.

Breadth finished at 29% positive on Tuesday which is poor but can become much worse in a real meltdown. More telling was the new highs and new lows, with only 74 names at 12-month highs against 224 at new lows. That is a three-to-one ratio in the wrong direction, and it is a different market from the one where the highs and lows were running close to even just a week ago.

No Rotation, No Dip Buying

There was no rotation and no dip buying to provide support, and that is what separates this from everything we have seen this year. For months, the pattern was that money leaving one group showed up in another. Chips got sold and the defensives caught it. Growth got hit and the Dow held up.

The indices absorbed the damage to various sectors because the money never left the market. That is the mechanism that produced zero days this year with 80% downside volume, which is a statistic I wrote about a week ago.

On Tuesday there was none of it. This was steady liquidation into a market with thin bids, and there was nowhere for the money to go except out.

Issues Are Not a Mystery

We have rising interest rates and inflation worries arriving at exactly the moment seasonality turns negative. Oil was up sharply again on more confusion about Iran, which feeds the inflation problem directly. European inflation hit a three-year high on Tuesday morning and the ECB is now fully expected to hike on September 10. Our own Fed chairman leaned hawkish on Friday, and the two-year yield jumped that day on his remarks.

None of that is new information. What changed is that the market has decided that it matters.

What Comes Next

The labor data will be released all week and it carries more weight than usual in this environment. JOLTS came in roughly in line on Tuesday and had almost no impact. ADP arrives on Wednesday, jobless claims on Thursday and the non-farm payrolls report on Friday morning.

There is elevated danger for a specific reason. For most of this summer, the market treated weak employment data as good news because it removed the pressure for a rate hike. That trade works only as long as inflation is coming down at the same time. Right now it is not. Oil is rising, European inflation just hit a three-year high, and Nvidia told us last week that memory prices are running ahead of expectations.

Weak jobs combined with rising inflation pressure is the definition of stagflation, and there is no version of that which is market friendly. It leaves the Fed without a good option, since cutting feeds the inflation and hiking deepens the slowdown. Stagflation is the most difficult economic issue the Fed can face.

July payrolls already declined by 23,000 with another 103,000 of downward revisions to the prior two months. Another soft number Friday will not be received the way soft numbers were received in August.

Game Plan

I have been anticipating this for weeks and my timing was premature, but the positioning is right. Cash is high and I have the flexibility to act as this develops.

Days like this are miserable if you are fully invested and they are opportunity if you are not. I made two small buys on Tuesday into the weakness and I expect to make more, slowly and in pieces, as prices come to me.

The setups I want are being created right now. They are not ready yet and there is no reward for rushing, but three days like this do more to build a shopping list than three months of the grinding rotation we had all summer.

Have a good evening. I’ll see you tomorrow.

At the time of publication, DePorre had no positions in any securities mentioned.