Market Ends August on Down Note on Fed Tapering and Syrian Concerns

The market ended the month of August last week with its second monthly decline out of the past three, as August turned out to be the worst month for U.S. stocks since May 2012 as the S&P declined by 3.1 percent, including a 1.8 percent loss last week alone. Since its August 2 peak, the S&P has pulled back by 4.5 percent, which is its second largest correction this year, still trailing the 5.8 percent downdraft from what was then its all-time high on May 21 until that correction ended on June 24.

Investors had to deal with the widespread expectation that the Federal Reserve’s plan to taper its $85 billion-a-month bond and mortgage-backed securities buying program could stall the housing market’s recovery. Other market woes included weaker than expected data on consumer income and spending; the potential for further upheavals in Europe after the September 22 German parliamentary elections; the fact that Greece might require a third bailout; the need to pass a resolution to keep the federal government from shutting down when the new fiscal year begins in this country on October 1 and another political battle over raising the debt ceiling when the U.S. Treasury reaches its borrowing limit in mid-October. On top of that, was the latest drama over the Syrian situation.

The geopolitical tension over Syria began last Monday afternoon when Secretary of State John Kerry said that the U.S. will hold that government “accountable” for what he called the “moral obscenity” of using chemical weapons against its own people, after pictures of these killings were widely circulated last week. These comments turned what had been a positive start to the week into a negative late selloff, which continued on Tuesday as the market underwent its worst single-day decline since June 20 with the Dow getting hammered to the tune of 170 negative points while the Nasdaq did even worse on a percentage basis with a 79 point shellacking and the indexes finished at their lowest levels since July 3.

Stocks got rattled because of the sharp rise in crude oil prices, up $3 a barrel to $109, their highest level in a year and a half. Gold also rallied, up to $1,460 an ounce on inflationary fears sparked by a potential rise in energy prices if the conflict were to spread to other areas of the Middle East, as Syria is a negligible oil producer itself. There was also the fear that Syria’s closest ally in the region, Iran, which is the sixth-largest oil producer in O.P.E.C., could get drawn in as well, in addition to Syria’s largest arms supplier, namely Russia, which also has naval bases in that country.

These declines mean that the Dow Jones Industrials have now fallen for four straight weeks and bond yields have risen for the fourth straight month on concerns that the Fed stimulus programs are about to be cut back. This has been reflected in the mortgage market, where rates for 30-year fixed rate loans have risen from 3.4 percent in May by about one full percentage point, which is certainly not going to help the housing market.

The argument over when the Fed will actually begin to taper is still not over, as economic data released this past week gave justification to both camps, so to speak, as the June CaseShiller Home Price Index rose to almost the highest level since March 2006, weekly jobless claims continued to decline, now down to 331,000, and second-quarter G.D.P. was revised upward to show a gain of 2.5 percent versus the initial estimate of 1.7 percent. These better numbers would tend to bolster the argument for tapering at the September 18 F.O.M.C. meeting. On the other hand, July durable goods orders fell by 7.3 percent, the lowest level in nearly a year, July pending home sales declined for the second month in a row and July personal income and spending rose by less than expected as mentioned above and the final August U. of Michigan Consumer Sentiment Survey fell to a four-month low. These weaker numbers would tend to argue for a postponement of any tapering until the December meeting, and so it goes.

What will probably be the clincher in the tapering debate is this Friday’s August non-farm payrolls report. The consensus is currently for a 180,000 gain with the unemployment rate holding steady at 7.4 percent, a four-year low. This would be an increase over July’s 162,000 and it is assumed that if the number is 190,000 or higher, which has been the average for the first seven months of the year, the Fed will start to taper. If the number is closer to the July figure, then all bets are off.

In the meantime, the Syrian situation continues to change almost daily, as our traditionally most reliable ally, Great Britain, saw the House of Commons reject British participation in a military strike against Syria, an obvious reaction to their blindly following the U.S. into the Iraq disaster without sufficient analysis and debate. This left France as our main ally in any potential military action, and let it be remembered that the last time France won a war was the 1859 Franco-Austrian conflict.

The President, sensing these shifts in sentiment away from the immediate attack position and with polls showing that nearly 80 percent of Americans believe that he should seek Congressional approval before commencing military action in Syria, reversed course over the weekend and now said that he will seek Congressional approval after all. Since Congress is currently on vacation and will not be back until next Monday, the political drama is going to intensify over the next week.

In the meantime, it would appear that stocks are going to start off the holiday-shortened week with a large upside push because the immediate attack on Syria thinking has now dissipated, and crude oil declined over the weekend down to $106 a barrel, gold continued to retreat, now down to $1,390 an ounce and the dollar strengthened as well. This should set a favorable backdrop to stocks as investors return from the Labor Day holiday today. On the other hand, after what could be an initial strong upside burst, things could cool off as we await Friday’s crucial jobs report and the drama over Syria continues to play out one way or the other.