Market Rout Puts Two Sectors Under the Microscope: Taking Stock

(Bloomberg) -- So how’s everyone feeling about the prospect of the stocks rally now?

After the S&P 500’s sixth down day in seven sessions, many analysts I’m talking to are not so sure. It’s not that people expected a period where every sector went nowhere but up to last forever (though the bulls would love that), but it’s more that the parts of the market widely viewed as economic barometers - small-caps companies and transportation stocks - are sending warnings signals. But more on that below.

Today’s futures price action doesn’t seem reassuring (S&P futures are down more than 6 handles, though about 2 handles off the lows). And reports that the ECB is said to cut its growth and inflation forecasts today with its rate decision may put a ceiling on any potential upward action in stocks (unless people start to feel like the U.S. again is the least "dirty shirt," as Bill Gross (formerly of Pimco) used to put it).

For investors looking for catalysts, the ECB and nonfarm payrolls Friday can’t come soon enough, especially after the U.S. trade deficit Wednesday grew to the widest since 2008 and Federal Reserve’s New York Fed President John Williams said he expects economic growth to slow to around 2% this year.

It’s Beginning to Look Like ... 2009?

There’s no shortage of growth barometers among the U.S. stocks, but some of the tried and true ones - transportation and small-cap stocks - are sending warning signs. The Dow Jones Transportation Index companies have dropped for nine sessions, the longest streak of losses since February 2009, before stocks hit the lowest point of the bear market. The next-biggest losing streak - eight down sessions - happened in 2011 when the U.S.’s credit rating was downgraded.

Market Rout Puts Two Sectors Under the Microscope: Taking Stock

Say all you want about mixed sector earnings skewing the tape (recall that UPS’s first quarter guidance was below estimates and airlines had an OK quarter at best, as Alaska Air and JetBlue lowered guidance and Raymond James said softer revenue hit leisure carriers the most), but the path the sector is on isn’t looking good. Sure, a 3.5% drop since the Christmas rally peaked on Feb. 21 isn’t a disaster. But considering the role of the sector in facilitating commerce, a dip, maybe somewhat bigger, is expected to be bought. If not, the minor weakness could become a more ominous one, says Instinet’s Frank Cappelleri. FedEx’s earnings on March 19 could be an important catalyst to watch.
Then, there are the small caps. The previously on-fire group pulled back hard on Wednesday, down 2% in the biggest loss since December. The Russell 2000 has hovered below its 200-day moving average this entire week, in contrast to major U.S. equity peers (transports being an exception). Small caps’ retreat below the support line tracks with some equity indexes in APAC, notably Korea and Taiwan, that just rejected their 200-DMAs even as they were supposed to benefit from a ~24% rally in China, Bespoke Investment notes. It only took the sector three days of losses (-3.3% in total) to move from being overbought (14-day relative strength index at 70) to neutral, with 14-day RSI now hovering at 49.

A Dollar Is All I Need

Among the biggest movers on Wednesday, General Electric got hammered after the revelation that the company’s industrial businesses will post negative cash flow this year prompted JPMorgan to say that its $6 price target, the lowest on the street, “generous.” Micron dropped the most in a month as analysts at Cleveland Research grew increasingly bearish on memory-chip pricing.

A few words should be said about Dollar Tree. The discount retailer jumped 5.1% to the highest in almost 11 months after fourth quarter same-store sales for fiscal year 2019 beat expectations. Not that the retailer isn’t used to big swings. It rose 5.5% on Jan. 7 after activist fund Starboard Value announced its stake. It soared 6.1% on Nov. 29 after reporting solid third quarter numbers and saying it’s accelerating the store-optimization program at the Family Dollar banner. The second quarter was less rosy, and the company plunged 16% on Aug. 30 after saying it’s struggling to show any meaningful improvement in Family Dollar banner. It fell by the same amount on March 7 last year after posting disappointing fourth quarter results.

Market Rout Puts Two Sectors Under the Microscope: Taking Stock

The biggest report later today, Costco may move food retailers even more. The stock’s adjusted EPS beat estimates in 7 of past 12 quarters. Competitor BJ’s Wholesale ended up giving up the entirety of its pre-market gains Wednesday after investors narrowed in on merchandise margins that likely missed expectations on an unfavorable sales mix.

Sectors in Focus Today

A few catalysts to keep an eye on:

  • Watch grocers on Kroger’s earnings (WMT, COST (results due post-mkt), DG, TGT, SPTN)
  • Apparel retailers on American Eagle (adjusted 1Q EPS forecast missed estimates - watch ANF, ASNA, BKE, EXPR, GES, URBN)
  • SAGE and other pharma stocks on Allergan (company’s fast-acting depression drug didn’t show an improvement in symptoms)
  • Homebuilders before Hovnanian’s numbers (after new home sales unexpectedly rose in December)

Notes From the Sell Side

JPMorgan issued a cautious call on the housing sector, saying that despite a nice bounce in share prices thus far in 2019, it still expects fundamentals “to remain less robust than last year on both an industry level and across the builders.” Both Toll Brothers and Meritage Homes (MTH) were cut to underweight on their “below average fundamental outlooks” and their unattractive valuations. For the sector overall, analyst Michael Rehaut wrote that valuations were “not unreasonable,” but that there was downside risk given JPMorgan’s below-consensus earnings forecasts for 2019 and 2020.

SocGen expects mining companies to turn lower, seeing a “likely correction” in iron ore prices. Rio Tinto was cut to sell as recent gains in the stock “seem excessive,” and the firm has a “blurred outlook for base metals.” BHP Billiton was also lowered, to hold from buy, as the firm sees shares as “well priced,” though it continues to like the company’s “well-balanced exposure to key commodities.”

Skepticism is growing ahead of FedEx’s upcoming results, due March 19, with Citi cutting its price target to $210 from $225. The firm has “caution on execution during what has been one of the rockiest periods for FedEx in our memory.” Morgan Stanley expects FedEx results to miss expectations, writing that while “bulls may say that bad news is already priced in, we’ll say that the stock is beholden to macro/tariff headlines and it’s difficult to judge the P/E until we definitively know what E is.”

Tick-by-Tick Guide to Today’s Actionable Events

  • DC Blockchain Summit, Day 2
  • Credit Suisse Mini LNG Conference (FLR, MDR, GLOG, KBR, APC, GTLS, BHGE)
  • 7:30am -- Feb Challenger Job Cuts YoY
  • 7:45am -- ECB rate decision
  • 8:30am -- Initial Jobless Claims, Continuing Claims; 4Q Nonfarm Productivity, Unit Labor Costs
  • 8:30am -- IRDM, ANTM investor day; ECB policy decision press conference; SSYS earnings call
  • 9:00am -- ETSY, CBRE investor day
  • 9:45am -- Bloomberg Consumer Comfort
  • 10:00am -- KR earnings call
  • 2:00pm -- KAI investor day
  • 3:00pm -- Jan Consumer Credit
  • 4:05pm -- OKTA, EB and MRVL results
  • 4:45pm -- MRVL earnings call
  • 5:00pm -- COST, EB earnings call

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