Market Brief – Monday 12/31/18

New Year’s Eve is generally a quiet day for stocks as most professional money managers have taken a long weekend. Today will be the last day for tax-loss selling and portfolio rebalancing for the year.

Foreign equities were up as China’s official manufacturing PMI fell to 49.4 in December, signaling a contraction in China’s manufacturing sector. This matches the low set back in February 2016. Normally a contraction in China’s manufacturing sector should incite fear, however, investors remain optimistic for further monetary stimulus out of Beijing. Investors have become complacent over the past ten years as bad news is often followed by printing more money.

If anything, the contraction in China’s manufacturing sector should be a sign the Fed’s monetary tightening is affecting global trade and consumption. It is also a sign we are winning the trade war.

The Dallas Fed’s business survey turned sharply lower when it fell from 15.0 to -5.1, well below expectations of a +13.0 print. Most likely this is occurring due to the recent drop in oil prices.

Last week’s jump in stock prices was completely ignored by the bond market and by volatility. Over the past couple of years, whenever stock prices rose, bond prices and volatility fell. Large upward moves in stock prices should at least be followed by a large downward move in volatility, but it didn’t happen last week.

Other than the pension-fund rebalancing that occurred last week, investors bought call options on the broad market. These option contracts are pure bets that the stock market is going to rise. Very little actual money was invested, as these speculators were hoping other investors will buy. When a market moves higher mostly on bets without money following, prices usually fall. Unless buyers step in, don’t expect this recent bounce to hold.

Equities erased their losses from last week as they closed higher today, but lower on the year. Global stock markets lost over $12 trillion this year, the second biggest loss by market cap, in history.

The unsung hero of the year was 10-year Treasury bonds, which on a total return basis, should be the top performing asset class, just beating out cash for the number two spot. Ten-year Treasury yields closed at 2.69% and are on a short path to reaching 2.6%, where its next support level is at.

Treasury yields are a leading indicator for stocks, and as they continue to fall, stock prices will also need to fall to catch up.