Covenant Weekly Market Synopsis as of May 20, 2016

May 22, 2016

The S&P 500 and Nasdaq posted gains to snap a four-week losing streak, but the Dow Jones Industrials did not.  International equities were mixed with the global index (MXWD) declining by 0.5% and emerging markets falling 0.9%, while European and Japanese equities rose 1% or more.   The yield on fixed income instruments rose modestly as did the US dollar, following the release of rather hawkish minutes from the Fed’s recent FOMC meeting.  Amongst commodities, precious metals (gold and silver) declined 2% – 3%, but WTI crude gained 3% on the week to $47.75 per barrel. Please click here to view detailed asset class performance.

Looking back over a longer timeframe, risk assets have been stuck in the market equivalent of quicksand for the last year: the S&P 500 has declined 3.7%, Global Equities are down 8.2%, and commodities have fallen 22.3%.   Even worse, Eurozone bank stocks are back at the lows witnessed during the 2008 Lehman bankruptcy and 2012 Greek default lows, while Chinese bank stocks have fallen more than 40%.  Bonds have been the winner over this period, rising 5.3%.  (Source: Barrons).

More Than a Feeling: If the markets feel more volatile this year, it is because they are more volatile. How much more? Below is a table highlighting the number of days that the S&P 500 has moved more than 1% over the first 100 days of each year.


It is evident that there was a phase-shift in volatility in 2015 versus the previous three years, which has carried over into 2016. The number of days in which stocks have risen 1% or more is 40%-50% higher. While the number of days that stocks have declined by 1% or more is 100% greater. With a less accommodative Fed and generally slow economic growth the world over, our expectation is that volatility is more likely than not to remain elevated as compared to the “Xanax years” following the Financial Crisis when the Fed was in full easing mode and markets were as cool as a cucumber.

Boomerang: As the de facto leader of the Organization of the Petroleum Exporting Countries (OPEC), Saudi Arabia has been instrumental in the push for OPEC to maintain market share by refusing to cut production in the face of low oil prices.  The unstated, but widely acknowledged, goal of which is to crush the U.S. hydrocarbon fracking industry.   It now appears that low oil prices are having a more widespread impact than simply reducing the rig count in the U.S. as reduced oil revenue is blowing back in the Saudis’ faces and hobbling their energy-reliant economy. Evidence of this boomerang effect includes:

  • In April, the Saudis took out a $10 billion loan from a consortium of global banks – the first time it has had to borrow significant capital in two decades.
  • The Financial Times reported last week that Saudi Arabia is already working on borrowing more money through a major international bond offering.
  • Bloomberg reports that the Saudi government is contemplating paying contractors with IOUs.

Though cutting production would raise oil prices (and keep more of the valuable commodity in the ground for future sales), the Saudis appear committed to pumping…even if it means putting the country in hock.

Economic Wrap-Up: The latest report on consumer prices showed an inflationary heartbeat: Consumer prices rose 0.4% month-over-month in April, slightly above the 0.3% consensus estimate; stripping out energy and food, the Core consumer price index rose 0.2%; and Real hourly wages rose 1.3% from the previous year. These inflationary pressures are real (the Core CPI has been above 2% for six consecutive months), but keep in mind they are still at low levels and do not offer any indication that the U.S. economy is about to enter a period of sustained high inflation. April Housing starts jumped 6.6%, slightly above consensus. As has been the case in recent years, most of the activity was in multifamily (+13.9%) units vs. single family homes (+3.3%). Industrial production gained for the first time in three months, pushing Capacity Utilization up from 74.9% to 75.4%. The combination of higher prices and gains in housing/industrial production support the narrative of a rebound in Q2 GDP growth.

Be well and godspeed,