The Stock Market Rebounds From Panic Geopolitical Selling

After declining by 4.4 percent and 4 percent respectively from last month’s highs in the Dow and S&P amid all the recent gloom over what had been the deteriorating geopolitical situation in the Ukraine, Iraq and Gaza, the market turned around to the upside late last week and continued moving higher to begin the new week on Monday.

But it was not a lack of drama that kept investors on their toes all week long, as various statements from public officials both here and overseas resulted in sharp and contradictory moves in stocks both to the downside and upside. For instance, last Tuesday saw a 60 point intraday Dow loss turn into a 200 point downside shellacking in a matter of minutes when the Polish Foreign Minister said that Russia had massed 30,000 troops on the eastern Ukraine border and was “prepared” to invade. This provocative statement sent nervous investors running to the sidelines in a hurry on the assumption that if what he was saying was true, this type of military action could lead to a very dramatic growth slowdown in the rest of Europe, which is still Russia’s largest trading partner. It also reminded investors of the worst type of Cold War provocations as well.

Tensions escalated further when Russia said it will ban all imports of food from the United States and all fruit and vegetables from Europe. The measures will hit consumers at home who rely on cheap imports and on farmers in the west for whom Russia is a big market as Moscow is by far the biggest buyer of European fruit and vegetables and the second biggest importer of U.S. poultry.

Things were sliding for the next couple of days when President Obama announced on Thursday night that the U.S. would airlift relief supplies to members of an ancient religious sect in northern Iraq that probably no investors here ever heard of, as they were trapped on a mountain and were at the mercy of the jihadist ISIS extremists. He also said that he had approved air strikes in that part of the country against ISIS, who had apparently overrun the supposedly powerful Kurdish army and were close to taking control of the capital city of Erbil. Since U.S. diplomatic and military personnel are stationed there, Mr. Obama obviously did not want another Benghazi on his hands with all the political recriminations that came about because of it.

After this announcement by the president, which appeared to raise the geopolitical temperature once again and provide investors with another excuse to sell, the various stock index futures plunged in the overnight session on Thursday with the Dow futures collapsing to a 120 point loss while the S&P futures were lower by as much as 13 points in conjunction with Japan’s Nikkei index declining by 3 percent.

But as the early morning wore on, these stock index futures began to improve and by the time the market was ready to open here on Friday, these leading indicators for where stocks are going to open had actually turned positive!

What happened to get the market into a better mood was a story that said Russia was seeking a de-escalation of the conflict with Ukraine by agreeing to take over the lead mediating effort. Then as the morning turned into afternoon, the market continued to extend its gains even further on a new report that now said Russian troops were returning to their permanent deployment areas inside their country and no invasion was imminent, and how do you like that? This ostensible good news forced investors into the market at even higher levels and both the Dow and S&P ended the session with their best advances since March! And this large Dow gain of 185 points and S&P advance of 22 points allowed these and the other major averages to end the week slightly higher when it certainly did not appear that this was possible after the president’s announcement.

There was also some technical-type buying as the Dow held at its 200-day moving average while the S&P held support at the price average for the past 100 days. And let it not be forgotten that in last week’s column I did mention that “the recent selloff means that investors are being given an opportunity to pick up stocks at much cheaper levels than they have been in a few months.” The Dow had declined to its lowest level since late April while the S&P had fallen to its lowest point since late May. And I also said that bull markets only end upon the onset of a recession, which is most unlikely to happen under present or future circumstances.

Meanwhile, the second-quarter earnings season is winding down, and it has been a very good one indeed. With more than 450 of the 500 S&P companies reporting, the scorecard is as follows — profit growth is expected to be as high as 10 percent while revenues are going to be ahead by over 4 percent. This means that 73 percent of companies have beat on the earnings side against the traditional 64 percent that report better than expected results, while 63 percent have done better on the revenue side versus the 61 percent that usually beat in this area. This is the strongest quarter of profit growth in more than two years and is obviously one of the reasons that stocks have been able to find support after the types of selloffs as mentioned earlier.

Economic reports released in the past several days showed that the July ISM Non-Manufacturing Survey, which covers almost 80 percent of the economy, rose to its highest level since December 2005, June factory orders increased by 1.1 percent, the June trade deficit narrowed from almost $45 billion to $41 billion and this will help revise second-quarter G.D.P. even higher, the four-week moving average of weekly jobless claims declined to its lowest level since February 2006 while second-quarter non-farm productivity rose by a greater than anticipated 2.5 percent and unit labor costs increased by a mere 0.6 percent.

Until proven otherwise, investors should use these dips in the market to buy good stocks that get sold off for no fundamental reason and just get caught up in the emotional selling that manifests itself from time to time.

Donald Selkin is the Chief Market Strategist at National Securities in New York, a veteran in the securities industry for 36 years who is widely quoted in the financial media.
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