Its not China, its the Economy (Stupid!)
NOTE: This Market Commentary alert was originally emailed to subscribers at Ritholtz Research & Analytics on Tues 2/27/2007 11:15 am;
This is posted here not as investing advice, but rather as an example of a trading call for potential subscribers. We expect to post future advisories in a similar manner -- after the call, but in the correct chronological location on the blog.
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The consensus seems to be that "pressures by a big drop in the Chinese stock market" is behind today's market plunge. The Shanghai's Composite Index plummeted 9%, widely described as the "biggest decline in a decade."
Getting the blame? "Efforts by investors to cash in on big gains and avoid any government attempts to cool the markets." As a reminder, the Fed did not attempt to do the same in 1999 / 2000.
Now, why the drop in China's benchmark stock index on fears of increased margin requirements should impact the US or Europe is food for thought.
Quite frankly, I don't believe its that.
What's more likely is the growing recognition that inflation remains "worrisome," that growth is slowing, and that the sub-prime mortgage housing debacle will no longer remained "contained."
The market is fortunate that sentiment levels are only frothy, and not completely exuberant. Also potentially containing this pullback: The support levels for the Nasdaq 100 remain steady.
Two recent research pieces discuss these elements in detail: Our Sentiment Review, and the most recent update of the Nasdaq 100 Composite.
Both research pieces can be found at the site here.
Source: WSJ
UPDATE: February 27, 2007 12:30pm
Consider the following headlines, dominated by today's news:
• Freddie Mac to Tighten Subprime Rules -- (2.27)
See also: Video: Freddie Mac chairman and CEO Richard Syron discusses new subprime mortgage standards, which will be implemented September 2007.
• Orders for Durable Goods Tumble (2.27)
A key barometer of business-equipment spending -- orders for nondefense capital goods excluding aircraft -- fell by 6.0%, after increasing 3.6% in December.• No Worries: Banks Keeping Less Money in Reserve (2.27)
Every Dollar Set Aside Can Cut Into Profits
• Subprime Game's Reckoning Day (2.27)
Risky Lending Fallout Threatens to Spread;
Uncertain ARM Strength
• Home Lenders Cut the Flow of Risky Loans (2.26)
Default Fears Drain Subprime Pool, Adding To Pressures on Prices• Mortgage Hot Potatoes (2.15)
Banks Try to Return High-Risk Loans To the Originators
• Default Jitters Batter Shares of Home Lenders (2.9)
Risky Mortgages Spark Concerns, Uncertainty About Fallout on Bonds
If you want to believe that some bureaucrat in China changing the margin requirements for local speculators as the cause of the US selloff, then go ahead.
Me? I prefer to believe what is right before my eyes: Decaying economic fundamentals, a complacent market that is overbought and way overdue for a correction. Add to that the single biggest positive contributor to the economy over the past 4 years – Housing – showing no signs of being anywhere near a bottom. A few more jiggles on the screen, and we there will be significant technical deterioration.
China? Yeah, I guess its China . . .
Tuesday, February 27, 2007 | 03:30 PM | Permalink
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» Open Thread from The Left Coaster
Was it a problem with China's stock market that caused the US stock market drop today? Barry Ritholtz says no. Your turn now.... [Read More]
Tracked on Feb 28, 2007 3:08:32 AM
Comments
Perhaps the Chinese market declined because of a belief that the US economy is slowing and their exports will slow with it
Posted by: Ryan | Feb 27, 2007 3:31:12 PM
straw poll on who will be the first sell sider to come out with note: BUYING OPPORTUNITY...
Posted by: konaman | Feb 27, 2007 3:33:06 PM
Personally, I've been amazed the stock market has been going up despite all the available news. A nice day for bonds, good for housing :) as long as you have good credit and can document it.
Posted by: Charleston real estate blog | Feb 27, 2007 3:35:24 PM
Nice call. The only thing I didn't see was something about the Yen and the carry trade.
Posted by: Josh | Feb 27, 2007 3:35:47 PM
who will be the first sell sider to come out with note: BUYING OPPORTUNITY...
My vote = Larry Kudlow
Posted by: Jim | Feb 27, 2007 3:36:29 PM
Barry - excellent quick post. In the spirt of completeness you could/should mention that existing home sales were up MoverM. :). Ahem...of course they were down YoverY by about 4.3% (relying as always on our friend CalculatedRisk). Which makes the point in support of your thesis that looking beneath the headlines at the actual data and the structural trends is well worthwhile. Given that prices. Given that prices also fell while inventories rose, well....it looks to me as if the housing implosion is just getting started but the denial(s) are beginning to waver.
Forgive me if this is excess schadenfreude. When the market recovers tomorrow I'll give it back.
Posted by: dblwyo | Feb 27, 2007 3:36:59 PM
barry i've been hearing that line for years now. sure it's possible people finally woke up to the 'realities' of today's global climate but it's too premature IMO to make that statement. we'll have to see what the follow up looks like.
Posted by: Richard | Feb 27, 2007 3:37:20 PM
At some point, the psychology turns and the glass is semi-suddenly half empty to a lot of people. Amazing thing, the herd instinct.
And a big tip o' the hat to Doug Kass.
Bob Prechter is looking pretty good today, too.
Hey, so is Marcin.
Now, there's a grouping you don't see every day.
Posted by: dark1p | Feb 27, 2007 3:42:41 PM
Can someone explain this to me?
From CNNMoney:
"NEW YORK (Reuters) -- U.S. short-term interest rate future traders sharply raised their odds Tuesday that the Federal Reserve will cut interest rate cuts this year.
The heightened chance of a rate cut was linked to a perception that investment risk is rising, heightened by a global equity market selloff sparked by a plunge in China's market and weak U.S. economic data."
So why does increased risk and an equity selloff increase the risk of a cut? Was soaring equity markets a reason for a potential rate hike? Or are people looking for any reason to keep the punch bowl out and party going with cheap money?
Posted by: Nikki | Feb 27, 2007 3:56:37 PM
Well in Nikki, I believe Cramer has been waffling on about a rate cut too as well as a few others who can't stand the sight of a bit of red. I'd love to inhabit the world these guys live in.
Posted by: Si | Feb 27, 2007 4:05:20 PM
Yes Kudlow is on right now telling everyone why it is such a good thing that they lost so much money today...
Posted by: Bob A | Feb 27, 2007 4:08:27 PM
Oh and does anyone remember a certain someone name George taking a victory walk on the floor of the NYSE just the other day?
Posted by: Bob A | Feb 27, 2007 4:11:17 PM
I have been watching CNBC and everyone seems to think that this is just a short term correction and of course a buying opportunity. I was really impressed how calm these people were when the Dow was down over 500 points. The consensus seems to feel this will last a few days.
I feel so much better now. I actually thought this was a bad thing until these people convinced me otherwise.
Posted by: GerryL | Feb 27, 2007 4:13:08 PM
In the spirt of completeness you could/should mention that existing home sales were up MoverM. :). Ahem...of course they were down YoverY by about 4.3% (relying as always on our friend CalculatedRisk). Which makes the point in support of your thesis that looking beneath the headlines at the actual data and the structural trends is well worthwhile. Given that prices. Given that prices also fell while inventories rose, well....it looks to me as if the housing implosion is just getting started but the denial(s) are beginning to waver.
Existing home sales(much like the census boards "new home sales") don't describe the massive cancellation "bust" we have seen out of this housing cycle. IMO, their data simply can't handle it, nor was it ever meant to.
I have new home sales for example, close to .850 after cancellations. A big difference from the census boards numbers, but they are behind the 8 ball due to a historic boom that was argueably, the greatest ever.
I suspect home sales will fall in February, maybe fall alot. But that doesn't mean it was a big decrease from the previous months, it probably wasn't(after cancellations). The bust is a slow steady decline.
Posted by: Cherry | Feb 27, 2007 4:15:45 PM
Do you know what happened to the DJIA at 3:00pm EST ... when the graph looks like it fell off the table? How many shares were traded during the minutes around 3 o'clock? The graph that I'm viewing could be wrong, but the spike in volume looks significant.
Posted by: Yorkd | Feb 27, 2007 4:16:13 PM
Nikki,
Because the sell off is a result of a slowing econ. (See Greenspans statement) To counter the slowing econ. the fed will need to cut rates.
If the econ were stronger, the fed would need to raise rates to counter/slow the econ.
The argument has been between those who think it's strong (Kudlow) and those who know it's slowing (everyone else).
NOW we know the answer.
It's now really hard to argue Goldilocks hasn't been mugged and had her porridge (sp?) dumped on her head.
Poor Larry.
Posted by: Craig | Feb 27, 2007 4:18:04 PM
Barry,
The market doesnt seem to agree with your "growing recognition that inflation remains worrisome".
Bonds up huge today in an usual pavlonian fly to quality (?) way of dealing with this sort of panicking days.
And gold down 20$ and something.
Looks to me this exactly what you would have expected to happen as soon as the very last buyer had bought: there were no sellers on the way up, there was no bidders today on the way down. Typical.
So to me the really wrong action today (so i agree with you on this) is in the bond market.
Something's gotta give. And this looks like its just the beginning of something.
But until the bond market reacts in this way, we're not anywhere near to going in the "inflation fear" direction.
Posted by: enrico | Feb 27, 2007 4:20:03 PM
I agree it's not China... blame Iran.
Posted by: Cheney | Feb 27, 2007 4:22:36 PM
I feel your pain Nikki. Back in old school economics, when you ran the printing presses overtime it simply produced cheap money that drove inflation and interest rates up. Under the new improved economics (based on the physics of money being thrown from Ben's helicopter and landing in China), you print more of the stuff up and interest rates go down, cause after it lands in China it all goes back to the Treasury, driving down interest rates. Some of us older codgers are scratching are heads are wondering how long this little trick can work, but so far so good.
From another old codger today, Kellner - "Here is the rub: if the Fed slows money growth enough to starve inflation, short-term interest rates will rise further, thereby exacerbating the decline in housing. If the Fed does nothing to rein in the money supply, it will have a credibility problem when it comes to inflation and long-term rates will soar. "
So you might wonder if we are starting the printing presses up yet again, why is everyone anticipating lower rates all around?
But that is just us old codgers talking, to put it more simply for the younger crowd, in answer to your very last question, "YES, THANKS AGAIN BEN, LETS PARTY ON!!!!
The next round of irrational exuberence and cheap money is on Ben."
Posted by: lewis | Feb 27, 2007 4:23:59 PM
Bonds up huge today
For now, they are up. But as the dollar falls and the fed cuts with the economy contracting, they could spring upward.
You have to also remember, they are pricing in a recession right now IMO, thus the sign of the inverted yield.
Very possible when the Fed begins to cut and the economy contracts, they reverse positions. If the carrytrade falls apart, maybe a VERY steep yield by next year.
The flight to saftey with bonds may be short.
Posted by: Cherry | Feb 27, 2007 4:24:55 PM
(lewis)-Under the new improved economics (based on the physics of money being thrown from Ben's helicopter and landing in China).......LOL
Posted by: Si | Feb 27, 2007 4:31:38 PM
I agree with Enrico's thoughts regarding "everything" being down.
IMHO, Fed's mindset leads to cut rates to "tell us" that it's all going to be OK. After 9/11, we only had 4-6 excessive rate cuts to reiterate the point that it was all going to be OK.
Today's price movement was a matter of time. The more things went up slowly but surely, the more that they were going to correct more "efficiently".
Funny thing to me is that of the 80-100 stocks on my permanent stock screener that a little company that sells private mortgage insurance (NYSE:PMI) was the best performing, only down .05%. You mean no more 90-100% mortgages?
-still short BBY...sold the LEN puts-
Posted by: CDizzle | Feb 27, 2007 4:58:04 PM
What I'm saying is that it's really sad that our economy is seemingly on such shaky footing that a 3% giveback after a monster 9 month rally and no volatility, everyone is screaming rate cut rate cut! It just seems to me that bulls are grabbing every piece of news as a reason for the Fed to make money cheaper, regardless of the strength of the dollar and foreign investment. Not to mention core inflation, which is still not receding at the rate the Fed wants, and they've said so explicitly recently.
Posted by: Nikki | Feb 27, 2007 5:08:32 PM
Rate cuts won't work this time either IMO. All it will do is crush the dollar and send financials tanking.
If Business investment is going to go through a 2001 type correction, a recession is a sure thing. No doubt, no debate. The dollar plummets, other countries dollar holdings get nasty. Interest rates won't save this economy, only a correction will.
Posted by: ac | Feb 27, 2007 5:13:23 PM
Lennar demands 20% reductions from Contractors
National Builder Reneges on Contracts, Threatens Trades [GTQBKYN]
IRVINE, Calif., Feb. 27 /PRNewswire/ -- Throughout Southern California, various trade contractors working on building projects with Lennar Corporation have received letters from the builder directing subcontractors to reduce and resubmit invoices for previously contracted work. Within the letters, Lennar threatens the contractors with being shut out of future work unless they meet the company's demand to lower prices for work in progress and, in some cases, already completed. The January letters offer "trade partners" the option of lowering their previously arranged prices or "be excluded from bidding future work for a minimum of 6 months." According to Beth Curran, executive director of the California Professional Association of Specialty Contractors, Orange County/Inland Empire (CALPASC OCIE), this amounts to extortion and sets a dangerous precedent.
Many of the Lennar letters CALPASC OCIE trade contractors received asked for up to a 20 percent reduction in contract prices after work had commenced and stated Lennar could cancel current contracts, halt scheduled work starts or send jobs out to be rebid. Recipients were instructed to agree to the new terms, sign and return the letters.
Posted by: Rick Hanley | Feb 27, 2007 5:16:08 PM
