Volatile Start To 2019 Amid Weak China Manufacturing Data

As the calendar flipped to 2019, investors hoping for a change in the uncertainty that ruled the markets last year may need to wait a bit. The new year got off to a rough start, as weak overseas data helped spark a global selloff. 

Specifically, an index for China’s manufacturing sector, the Caixin/Markit Manufacturing PMI, fell below 50 for the first time in 19 months, to 49.7. A reading below 50 indicates economic contraction. For many analysts closely watching how the ongoing tariff tensions with the U.S. will shake out, the contraction indicates that the trade relations may be taking a toll on demand in the second-largest economy in the world.

Leading the markets lower was Hong Kong’s Hang Seng Index, which fell 2.8%. European markets fell as well, after manufacturing data across the eurozone indicated a broad-based slowdown over the region.

In other news that could weigh on stocks today, Tesla, Inc. TSLA reported Q4 production that fell short of Wall Street estimates. The electric automaker’s shares slid over 7% in early trade as it said it delivered 90,700 vehicles, up 8% from a year ago but short of the 92,000 expected, according to FactSet.

Risk Mode Toggles to "Off"

One chief effect from the overseas turmoil is it seems to have shifted the risk-on/risk-off switch back to the “off” position. The Cboe Volatility Index (VIX), which last week fell to the mid 20s, down from a high of 36, is back on the rise. The 10-year Treasury yield fell in early trading in an apparent flight to safety. Gold, also a choice among investors seeking safety in troubled times, rose to its highest level in six months. 

Although this week overall is relatively light on major economic data releases, a U.S. manufacturing index is scheduled for release tomorrow. Given the weak state of the recent data from overseas, it could be interesting to see how U.S. manufacturing fared in December.

And the government on Friday is scheduled to release one of the most closely followed reports–the monthly nonfarm payrolls report. Economists in a Briefing.com consensus expect the economy to have added 180,000 jobs in December. Average hourly earnings are expected to rise 0.3%. 

Meanwhile, thousands of U.S. government workers remain out of their jobs, at least temporarily, as the partial government shutdown continues. Hopes of a resolution seem unlikely until at least until Jan. 3, when a new Congress convenes.

It may be worth keeping in mind that there have been government shutdowns and short-term funding gaps in the past and, overall, there has been a minimal impact on the stock market. The last partial government shutdown that lasted more than a weekend was in October 2013. By the end of it, the S&P 500 (SPX) was actually up. The consumer discretionary sector and defense stocks dropped a little further than the SPX halfway through it, but they were also positive by the time it ended.

Trade Winds Flutter Again

Sentiment in the U.S. stock market this morning contrasts to the celebratory mood on New Year’s Eve, when all of the three main indices posted gains on optimism about progress in resolving the trade tensions between the U.S. and China.

The enthusiasm came after President Trump talked up a call between him and his Chinese counterpart, saying that “big progress” was being made. The tweet seemed to be enough to help the market end the year’s last session in the green.

It’s probably worth keeping in mind that trading volumes for stocks in each of the main three U.S. indices were light, as was to be expected during a holiday-shortened week and a trading day right before the New Year’s closure of the stock market. In such conditions, it’s not rare for thin volume to help exaggerate moves to the upside, or downside. 

While Trump’s tweet appeared to provide enough momentum to help push all 11 of the S&P 500 sectors into the green, in a regular trading session that might not have been a the case. After all, the Wall Street Journal reported that Trump may be overstating his case. And, according to Reuters, Chinese state media said Chinese President Xi Jinping was more reserved.

Reaction to the headlines about the U.S.-China trade situation could be a microcosm of much of last year, when news that the market interpreted as positive led to jumps in equities, but headlines judged unfavorable resulted in stock declines.

And, with the trade war still unresolved, it’s arguable that this sort of trade-based market volatility will continue this year depending on how the trade winds blow.

Market Revaluation

Another reason for the U.S. stock market posting its worst performance since 2008 last year was a broad revaluation as investors seemed to get nervous about potentially lofty stock prices that had carried stocks to record highs amid bumper corporate earnings earlier in the year. A big casualty of this repricing was the FAANG group of stocks. Facebook, Inc. FB, Apple, Inc. AAPL, Amazon.com, Inc. AMZN, Netflix, Inc. NFLX, and Alphabet GOOG, which had helped drive positive momentum for so long, all hit 20% losses in late 2018. 

The magnitude of the overall market selloff raises questions about whether the market may be nearing a bottom and whether it could find it early on in 2019. Even as the major headwinds of 2018 look like they’re remaining in place, much of that worry may already be priced in to the forward-looking stock market. 

Equities weren’t the only investments to sell off sharply heading into the end of the year. As investors apparently became more risk-averse, they also sold out of oil positions, causing crude prices to fall sharply. Worries about global economic growth, and the related demand for oil, were at the heart of this selloff. Last year also saw the market awash with a glut of oil supply, which also helped to pressure prices.

But not all commodities suffered. The decline in risk appetite that was reflected in lower stock and oil prices ended up helping gold. The precious metal is often considered a safe haven in times of market turmoil, although no investment is completely risk-free. Gold has risen toward the end of the year even as the dollar has stabilized at elevated levels. (See below.) That’s notable because a stronger dollar often makes dollar-denominated gold less affordable for those using other currencies, potentially dampening demand.

Gold Getting Its Shine On: For much of 2018, the dollar index (candlestick chart) and gold (purple line) have been a mirror image of each other. But toward the end of the year, gold has gained ground despite the dollar index being relatively flat. That might support gold’s allure as a perceived safe-haven investment amid the ferocious selling in assets that are considered riskier. Data Source: Intercontinental Exchange, CME Group. Chart source: Thethinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.

Fed’s Balancing Act in 2019: Although the economy in the U.S. posted some solid numbers in 2018, there have been concerns about a slowdown in growth in the world’s largest economy. The Fed lowered its median estimate for 2019 gross domestic product growth to 2.3% from 2.5%. A recent report showed weaker-than-forecast consumer confidence. And the U.S. housing market has been struggling with demand amid rising buying costs, including higher mortgage rates as the Fed has been on a hawkish streak. According to Fed commentary, the Fed funds target range is nearing a “neutral” setting that neither sparks economic growth nor slows growth down. And it has lowered its expectation to two rate hikes in 2019 as opposed to three it had previously forecasted. But it remains to be seen whether the central bank ends up being as dovish as the market hopes this year. 

Half of Globe Online in 2018: Last year, humankind reached a milestone that perhaps got less fanfare than moves in the stock market. By the end of 2018, more than half of the world’s population was using the internet, according to an estimate from a December report from the International Telecommunication Union, the United Nations’ specialized agency for information and communication technologies. In addition to being an important marker of the information age, the news also shows there is still potential for expansion from technology companies. Developed countries, where four out of every five people are online, are reaching internet usage saturation. But only 45% of people in developing countries are using the internet. Indeed, in the world’s 47 least-developed nations, it’s a mirror image of the developed world. There, four out of five people are not yet using the internet. 

A Look at Volatility: Much attention has been paid to the market’s volatility toward the end of last year. But as history shows, 2018’s large ups and downs were below the average over most of the last two decades. As measured by days when the SPX gained or declined 1% or more, volatility was uncharacteristically light during 2017, which had only eight of those days, according to investment research firm CFRA. Volatility came roaring back last year, which had eight times that number. While that is higher than the average of 51 days a year since 1950, it’s below the average of 69 since 2000.