Federal Reserve Board Chairman Jerome Powell speaks during a press conference following the January 28-29 Federal Open Market Committee meeting, in Washington, DC on January 29, 2020.
Mandel Ngan | AFP | Getty Images
Are you confused about what is going on in the markets? Traders sure are.
“We all got comfortable thinking Covid was done or manageable, and it may turn out to still be a wild card,” said Peter Tchir of Academy Securities. “Nobody wants another year of lockdowns.”
This week, it looked like inflation/yield worries were going to replace Covid as the primary market risk, and as a result there has been head-spinning moves in stocks as investors have tried try to assess the impact of higher rates.
Figuring out that is hard enough, but now we are reminded of an unpleasant truth: Covid has not gone away.
“The Paris story was not what the market wanted to hear,” said Steve Sosnick of Interactive Brokers, referring to the French capital locking down again amid worries about new strains of the virus.
“The market was not in a mood to receive more bad news,” he told me. “The bond market was not particularly happy with [Fed Chair Jerome] Powell’s comments, and it didn’t help you have a [quadruple witching] expiration [Friday], which likely caused more volatility.”
That unpleasant truth — that Covid has not gone away — is a threat to one pillar of the market’s rally to new highs: The so-called reflation trade, where companies associated with the reopening of the U.S. economy — transportation, travel/leisure, industrials — have all led the market rally.
Some reopening stocks, particularly energy stocks, have stalled this week on concerns of additional lockdowns:
Reopening stocks this week
- Exxon Mobil down 8%
- American Express down 4%
- Avis down 2%
- Disney down 3%
While broad reopening sectors remain up this week, they are well off their highs from midweek:
The reopening trade this week:
- Airlines (JETS) up 1.5%
- Homebuilders (XHB) up 1.6%
- Autos (CARZ) up 1.5%
Value stocks are now momentum stocks — or are they?
The pullback has been especially startling because value stocks (energy, industrials, banks, some consumer names) which have long underperformed growth (technology) have suddenly stolen the limelight. Value stocks had become momentum leaders: The new high list was regularly filled with bank and industrial stocks.
Could another outbreak threaten the gains made by the reopening sector? “Americans need to be reminded that we are not the world,” Sosnick said. “It’s not just Europe, things are breaking down in Brazil as well. Americans are all thinking about their upcoming vacations, but it may not happen for the rest of the world.”
The market is confused about rate hikes
The biggest issue for markets, however, is the correct posture toward higher rates.
“We can’t figure out if higher rates are fine for the markets, or not,” said Leuthold’s Jim Paulsen. “I still feel that at the end of the day what will rule the day is the sheer growth numbers we are going to see. Growth is going to be so strong that some inflation is not going to matter that much.”
While the decline in big-cap tech stocks has been relatively modest this week, more serious damage has occurred to the hugely popular “thematic” tech sector (clean energy, gaming, cloud computing, cybersecurity, and Cathie Wood’s Ark Investments) has seen selling all week.
Thematic tech ETFs this week:
- Clean Energy (ICLN) down 11%
- Invesco Solar (TAN) down 11%
- Video Gaming (GAMR) down 7%
- Cloud Computing (WCLD) down 4%
- ARK Innovation (ARKK) down 5%
- 3D Printing (PRNT) down 3%
‘It seems like everything is speeding up’
How to make sense of all this? Is this crazy trading perfectly understandable given the confusing fundamentals, or is this something else at play here?
One issue repeatedly brought up by the trading community is a hyper-acceleration in trading — trends that used to take months to play out now play out in a matter of days or even hours.
That is not an illusion, said Seth Merrin, founder and executive chairman of Liquidnet, a global institutional trading network.
“GameStop is proof positive. Back in the dot-com craze, your doorman would give you stock tips. Now, everyone is sitting at home, looking at Reddit. Putting money into bitcoin, dogecoin. That is roiling the market. That is information professional traders had not really looked at. You can create a firestorm in retail stocks that shifts trading in ways that professional traders never thought of,” he said.
At the heart of it, Merrin said, is the fact that more people have access to data that used to be in the hands solely of professionals. “The speed in trading is not the big differentiator, it’s the access to data,” he said. “People can access data, process it, and act on it. This kind of data used to be available only to high frequency traders. Now you have a lot more people able to take advantage of it.”
So where will this end? In the near future, will we all be high-frequency traders? Will I have an artificial intelligence that trades my stocks that will interact with your AI, and my AI will be just about as good as the best high frequency traders?
“Yes,” Merrin said. “Everyone in the world will not be a Citadel, but as everyone is able to process more data the chances are they will trade in and out of positions more.”
Paulsen also noted that the Covid crisis has also changed the way people look at the world.
“If you look back at what happened in the pandemic, we had the biggest drop in GDP, biggest loss in jobs, in history. And the Fed and Congress reacted with ferocity, almost immediately. If the Fed and Congress suddenly sped up their reaction time, why wouldn’t traders?”
Correction: Steve Sosnick is with Interactive Brokers. An earlier version misidentified the firm name.
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