Some Good and Some Bad News for Stocks
China inflames 'trade war' fears again... 'No one is in a position to dictate to the Chinese people what should and should not be done'... New signs of trouble in the credit markets... Some good and some bad news for stocks... 'The most important kind of diversification'...
Well, it was nice while it lasted...
After a few days of relative peace in the ongoing "trade war" with China, tensions are rising again. Only this time, it's due to remarks from Chinese President Xi Jinping rather than U.S. President Donald Trump.
In a speech to commemorate the 40th anniversary of China's "reform and opening up" this morning, Xi struck a far more defiant tone than we had heard of late. And while he didn't mention trade tensions with the U.S. specifically, his message was clear. As financial-news network CNBC reported...
[Xi's] remarks focused on how China's Communist Party guided the nation to its economic success and emphasized the country's right to pursue its own path going forward...
That idea of progress contrasts with other countries' increasingly vocal demands for less state control and could have significant consequences for whether the U.S. reaches a trade deal with China by the end of its 90-day tariff ceasefire.
"No one is in a position to dictate to the Chinese people what should or should not be done," Xi said in Mandarin Chinese during the speech, according to an official translation broadcast through state media.
We continue to believe this trade war is unlikely to end soon. Despite the positive rhetoric over the past few weeks, both parties still appear to be more concerned with "saving face" than with reaching a legitimate agreement.
In other news, regular Digest readers know we've been tracking some early signs of trouble in credit markets...
Most notably, in recent weeks we've seen both a sharp decline in the prices of high-yield corporate (or "junk") bonds, as well as a breakout in the "spread" between the yields on junk bonds and U.S. Treasurys.
But these aren't the only indications that corporate credit is suddenly beginning to "tighten" again. As the Financial Times noted on Sunday...
Not a single company has borrowed money through the $1.2tn US high-yield corporate bond market this month. If that drought persists, it would be the first month since November 2008 that not a single high-yield bond priced in the market, according to data providers Informa and Dealogic.
In other words, barring a sudden reversal, December will be the first month without a junk-bond sale since Lehman Brothers went bankrupt during the financial crisis. This didn't even happen during the worst of the corporate credit panic in late 2015 and early 2016.
This is noteworthy... While it's still early, it suggests the credit default cycle we've been warning about for the past few years could be starting now.
Likewise, the recent weakness in financials is another reason we've become more cautious...
As our colleagues Ben Morris and Drew McConnell noted last week to their DailyWealth Trader readers, this critical sector has gotten absolutely crushed in the recent correction.
The S&P Financials Sector Index has now fallen more than 20% from its January high, and continues to lead the market lower. And here, too, are additional signs of trouble beneath the surface. As news service Reuters reported yesterday...
As U.S. bank stocks tanked this month over fears of an impending recession, industry executives downplayed concerns to colleagues, analysts and journalists, arguing that the economy is in great shape.
But looking behind headline numbers showing healthy loan books, problems appear to be cropping up in areas such as home-equity lines of credit, commercial real estate and credit cards, according to federal data reviewed by Reuters.
Lenders are also starting to cut relationships with customers who seem too risky... Although delinquency and default rates remain near historic lows, as do industry reserves and charge-offs for bad debt, banks have started to pull back.
Like us, Ben and Drew have also become much more cautious recently...
And in yesterday's issue of DailyWealth Trader, they shared some good news – and some bad news – for the broad market.
First, the bad. While Ben and Drew aren't big on making stock market predictions, they noted that the recent price action in stocks has been concerning. In particular, they noted that the S&P 500 was getting dangerously close to an important level...
The benchmark S&P 500 Index's 200-day moving average (200-DMA) started falling in mid-October. It confirmed the downtrend in mid-November. And the 200-DMA has mostly been falling since then. In the past, this signal has led to weak returns going forward. So that was one warning sign.
And the bad news is, the warning signs continue...
In late October, we showed you that the S&P 500 has a major "support" level at about 2,580. On Friday, the S&P 500 dropped 1.9% to an eight-month low of 2,600.
As you can see in the chart below, that's just 0.8% above this key support...
Back in October, they noted this key support level could provide a major clue to a more serious decline...
In short, if stocks could hold above 2,580 and turn higher, it would be a good sign that the worst of the correction was over. On the other hand, if this level failed, it would be a sign that a bigger decline could be in store.
Unfortunately, the S&P 500 closed solidly below this level yesterday and continued lower today.
Like us, they believe more downside is now likely.
So what's the good news?
Fortunately, there's more than one way to define an uptrend. And now that 2,580 has broken, they believe an even stronger area of support could come into play...
When an asset touches a trend line three times, it creates a strong support level for that asset. And in the chart below, you can see that a long-term trendline in the S&P 500 goes all the way back to March 2009.
This support level is about 21% below the September peak, at 2,320...
Of course, by most definitions, a 20%-plus drop is considered a bear market...
But the reality is, declines of this size can (and do) occur within larger bull markets. And that's exactly what they believe could happen now: We could see a 21% total decline, followed by another major leg higher in stocks.
Now, you may be wondering how this is good news... But as they explained, this scenario could present a tremendous opportunity... if you're prepared. And their advice should sound familiar to regular Digest readers...
Limit your trading risk with the tools we use regularly in DWT. Use intelligent position sizing and stop losses. Hedge your bullish positions with strategies like short selling and pairs trading. And trade assets that aren't highly correlated to the broad stock market (like precious metals and currencies).
You should also be comfortable with the idea of holding a lot of cash. Cash serves as "dry powder" that lets you take advantage of great opportunities that appear in the future.
And great opportunities will appear. If the S&P 500 drops to its long-term uptrend line near 2,320, we'll likely be buyers.
It will feel terrible. Folks across the media will be printing "BEAR MARKET" in bold red letters in all the headlines. And it could be the best buying opportunity since early 2016... when stocks soared 57% in less than two years.
It may not be the "good news" you were looking for. But that's what the market is telling us today. We suggest you listen.
One last thing...
Last Friday, luxury-goods company LVMH – which owns fashion brands Louis Vuitton and Fendi, as well as champagne maker Dom Pérignon – announced it was purchasing luxury-hotel operator Belmond (BEL). As the Wall Street Journal reported...
LVMH agreed to pay $25 a share in cash for Belmond, a transaction that values the company's equity at around $2.6 billion. That represents a premium of more than $7 to where Belmond shares closed Thursday on the New York Stock Exchange. Belmond's enterprise value, including debt, is about $3.2 billion.
Now, we'd wager most readers have probably never even heard of Belmond, let alone own shares...
But a small number of our best subscribers had the opportunity to earn nearly 40% on this stock in just a little over two months.
You see, Belmond was the top recommendation of our friend Erez Kalir – CEO of Stansberry Asset Management ("SAM") – at this year's Stansberry Alliance Conference in Las Vegas, Nevada.
As you may recall, each year we invite our lifetime Stansberry Alliance members to join us for an exclusive day of presentations. This is where many of our analysts and guest speakers present brand-new ideas for the first time... or in some cases, the only time... in public.
This year, Erez shared a unique and timely idea perfectly suited to today's volatile market environment. In a presentation titled "The Most Important Kind of Diversification," he explained why you should not only diversify your portfolio across investments and asset classes, but also across time.
In other words, even if you consider yourself a long-term investor and stick primarily to the high-quality, capital-efficient businesses we often recommend, your portfolio can still benefit from some shorter-term, catalyst-driven investments.
As Erez explained, these types of investments have several benefits...
First, they don't require you to tie up your capital for long, which can be a huge advantage during periods of elevated volatility or bear markets. Second, they tend to be less correlated to mainstream equities. And finally, they tend to be somewhat "off the radar" of Wall Street analysts, meaning the upside can be significant.
He said a great place to look for these kinds of opportunities is in the market for "corporate control," more commonly known as mergers and acquisitions ("M&A"). And Belmond – a company which owns some of the premier trophy properties in the world – was a prime example...
In short, Erez noted a change in one of the company's regulatory filings...
The company's founder and controlling shareholder – who was now well into his 80s – had recently given up his voting shares to the board, in exchange for a roughly $25 million incentive payment if the company were sold within six months.
Erez believed this meant Belmond would likely be offered for sale soon... and given its premier portfolio of assets, there would likely be many interested bidders willing to "pay up" to gain control.
That's exactly what happened...
At the time of his presentation, there was no public indication of a potential transaction, only the founder's agreement with his board that had recently been disclosed.
Less than three months later, LVMH acquired the company at a 45% premium. Anyone who took Erez's advice made nearly 40% over that time. And remember, this was during a period when the broad market fell nearly 10%.
Of course, it's too late to take advantage of this opportunity in Belmond today...
But it is just one example of the less correlated, event-driven opportunities Erez discussed in his Alliance day presentation. And for a limited time, he has agreed to share his full presentation and slide deck with any interested Stansberry Research readers for free.
Whether or not you're interested in learning more about SAM's services, this is a great opportunity to expand your investment "toolbox." Click here to get your copy.
New 52-week highs (as of 12/17/18): short position in SPDR S&P 500 Fund (SPY).
In today's mailbag, a subscriber to Dr. David "Doc" Eifrig's brand-new Advanced Options advisory shares his thoughts on the first issue, published yesterday. Let us know what you think of it at feedback@stansberryresearch.com.
"I just read [Doc's] first issue of Advanced Options. It is everything I hoped it would be! Your recommendation is clear cut and the description of your reasoning behind the trade is very clear, as well. I'm still waiting to get my option approval from Fidelity. If I already had it, I would be making this trade! Thanks again, Doc. Your work is a pleasure to read. And, it's really cool to receive issue #1 of this newsletter!" – Paid-up subscriber Richard D.
Regards,
Justin Brill
Baltimore, Maryland
December 18, 2018
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