The S&P's Worst Day Since 'Brexit'

The S&P's worst day since 'Brexit'... More rate-hike talk from the Fed... The 'bottom line' on central bank easing... Manufacturing and services plunge in August... Bad news for the 'gig economy'... One of the biggest oil discoveries of the decade?... Click here to join us for Wednesday's big announcement...

Friday was the worst day for U.S. stocks since the United Kingdom voted to leave the European Union on June 23.

It also marked the end of an incredible 44-straight trading days without a move of 1% in either direction. U.S. stocks – as represented by the S&P 500 Index – fell 2.5%.

Bonds fell, too... pushing yields to multi-month highs. Bloomberg notes benchmark government bond yields in the U.S., Europe, and Japan are now all trading at or above pre-Brexit levels.

The selloff was largely blamed on worries that the unprecedented central bank stimulus could be coming to an end...

As regular readers know, both the European Central Bank and the Bank of Japan have been buying up billions of dollars of bonds every month. In fact, they're buying up so many, they're quickly running out of eligible bonds to buy. This could be making stimulus-addicted markets nervous. As the Wall Street Journal reported this morning...

The recent selloff started on Thursday after European Central Bank President Mario Draghi declined to commit to extending the bank's €80 billion monthly asset purchases, which are currently slated to end in March 2017. Investors are also concerned that the Bank of Japan is nearing the limit of its bond-buying program and may reduce its purchases of the country's long-dated government debt.

That has upended a conviction that has shaped financial markets over the last two years: that central banks would keep on easing monetary policy.

"Nobody has been buying on [economic] fundamentals, but on [market] technicals," said Mark Dowding, co-head of investment-grade at BlueBay Asset Management. "And the dominant technical has been central banks being massive buyers of assets."

On Friday, Federal Reserve Bank of Boston President Eric Rosengren added fuel to the fire...

At a speech in Quincy, Massachusetts, Rosengren – long considered one of the Fed's biggest "doves," or proponents of easy monetary policy – said he is now in favor of gradually raising rates. He also added that that a failure to do so could "shorten, rather than lengthen, the duration of this recovery."

Rosengren's comments follow similar remarks from several Fed officials recently, including some suggesting that a hike could be coming as soon as the Fed's September policy meeting next week.

Meanwhile, the CME Group's FedWatch tool still rates the probability of a September rate hike at just 21%, as of this morning.

Three more Fed officials are expected to speak today, including Federal Reserve Board member Lael Brainard. Brainard's speech in particular may be telling. She is another longtime dove, and she is considered a friend to Fed chair Janet Yellen. As Marshall Gittler, head of investment research at FXPRIMUS, noted to Reuters...

Market participants are wondering if maybe she is being wheeled out to give the market one last warning of a rate hike at next week's meeting... The thinking is that if someone as dovish as she starts talking like a hawk, people will notice. Her speech will be closely examined.

Again, while we can't predict what the Fed or other central banks may do in the near term, the "big picture" hasn't changed. We don't expect the era of unprecedented monetary easing to end anytime soon. As Porter explained in the April 5 Digest...

Today, bad debt has transformed the global economy into a mountain of hugely inflated value... a giant pile of steaming, worthless garbage. So what happens when suddenly, for no discernable reason at all, everyone decides to stop pretending otherwise? When that happens, the authorities have three choices. They can...

1. Inflate away the bad debt by devaluing the currency and propping up the banking system with newly printed money and trade surpluses. That's the International Monetary Fund's playbook. It's what Japan has tried to do for 30 years...

2. Write off the bad loans, shut down the bad banks, and suffer a severe (but short) crisis. That's the sound-money option. (Nobody does that anymore, because depositors in the bad banks would lose everything... and they vote.) Or...

3. Simply repudiate a lot of the debt and stiff the creditors, like Russia did in 1998 and Iceland did in 2008. (That option works best if you have foreign creditors... like Argentina did in 2002.)

In short, the extraordinary actions of the past few years show the authorities have already made their choice. And as we've discussed, nobody knows exactly what's going to happen as most of the world's largest economies try to inflate away their bad debts at the same time... But it's certain to be bad news for folks who saved all their money in paper currencies.

Of course, none of this means central banks can keep expensive markets – particularly expensive bond markets – elevated indefinitely. In fact, a bond market panic is virtually unavoidable now, even if interest rates don't rise first. As Porter explained in last Friday's Digest...

The "fuel" that's behind this mania and the reason it continues to grow (for now) is the fact that most professional investors, aka "Wall Street" believe that without higher interest rates, there simply won't be a trigger for a panic. But these guys are forgetting something that's very, very important...

There are two ways to trigger a panic in the bond markets, not just one.

Yes, the first trigger is higher interest rates... But the second trigger for panic, the one they're forgetting, is simply rising defaults. Cheaper credit, by itself, won't fix a failing business. Cheaper credit, by itself, can't fix falling profit margins where there's tremendous overcapacity, as there is in energy, manufacturing, retail, real estate, etc. In these sectors, defaults can and surely will cause massive losses for bond investors.

This panic will begin in the next 12 months. And because the numbers are so large and global, the coming bear market in junk bonds will influence fixed-income markets and equity markets around the world.

In the meantime, while the Fed is talking about raising rates, the latest data suggest the U.S. economy could be weakening again...

First, the Institute for Supply Management's ("ISM") index of manufacturing unexpectedly dipped again last month. It fell to 49.4 in August, down from 52.6 in July. (Readings below 50 indicate contraction, while readings above 50 indicate growth.)

August's decline marks the first contraction since February, and ends the economy's seven-month streak of slow growth.

More important, data show the U.S. services sector – which now represents roughly 80% of the economy – is on the verge of contracting, too...

ISM's non-manufacturing index fell to a six-year low of just 51.4 in August from 55.5 in July. Analysts had expected 54.9, according to a Bloomberg survey.

This is the index's lowest reading since February 2010, and its biggest one-month decline since November 2008. ISM also noted seven of the 18 non-manufacturing industries it tracks are already in contraction, including retail, arts and entertainment, and transportation and warehousing, among others.

While one month doesn't make a trend, it's concerning to see two key measures of economic activity suffer steep drops after months of official expansion.

In addition, as we mentioned in the June 6 Digest, a study from Harvard and Princeton shows that the job market isn't as healthy as government data might suggest.

According to official statistics, more than 9 million net new jobs have been created in the U.S. since 2005. But according to Katz and Krueger, all of these jobs have been in "alternative work."

These are temporary, on-demand, and/or independent-contracting jobs that pay less, provide no benefits, and offer fewer and less-reliable hours compared with traditional work.

And now these workers are starting to realize that they can't count on their wages staying the same.

The Financial Times reports that when on-demand transportation company Uber launched its "UberEats" app in London, it initially offered £20 an hour. But as customer demand increased, Uber reduced pay...

By August, the couriers were on a piece rate with a fiddly formula: £3.30 a delivery plus £1 a mile, minus a 25% "Uber service fee," plus a £5 "trip reward."

Then, one day, the couriers woke up to find the app had been updated again. The "trip reward" had been cut to £4 for weekday lunch and weekend dinner times, and to £3 for weekday dinner and weekend lunch times. Outside those periods, it had been cut altogether.

These workers are paid, judged, and fired based on an algorithm.

That's great for customers... It costs less to get a taxi or food delivered to your door.

A recent paper written by researchers at Uber, an Oxford professor, and two University of Chicago professors, including Freakonomics author Steven Levitt, concludes that for every dollar spent by consumers on Uber's taxi service, they receive $1.60 worth of value. According to Bloomberg...

That's an unusually high amount of "consumer surplus," as it is called by economists. It means there aren't that many close substitutes for Uber at prevailing prices, as moving people around is something the U.S. does not do especially well.

But algorithms aren't as popular with workers. And the "gig economy" is likely to get far worse before it gets better – if it ever does.

Case in point... Uber recently launched its first self-driving car fleet in Pittsburgh – about 100 modified Volvo sport utility vehicles – as the first commercial attempt at taxis without the need for an active driver at the wheel. And last month, carmaker Ford Motors announced that it would put self-driving taxi fleets on U.S. streets within five years.

This shouldn't be a surprise to anyone who has been paying attention. And as Porter predicted two years ago...

As computers get way more powerful, as networking gets better, as GPS gets better, there are all kinds of jobs that are going to get taken over by some kind of computing, whether it's robotic computing or just network computing. Jobs are going to disappear.

Don't get too comfortable, Uber drivers.

Over in the energy sector, U.S. oil and gas exploration and production ("E&P") company Apache (APA) announced a huge new discovery in West Texas' Permian Basin last week.

Dubbed "Alpine High," the area is believed to hold an incredible 75 trillion cubic feet of natural gas and 3 billion barrels of oil, which would make it one of the biggest energy discoveries of the decade. The company has leased more than 300,000 acres of the estimated 450,000-acre deposit, which could be worth at least $8 billion by conservative estimates.

What's especially notable about this "discovery" is that it isn't really a new find at all. The area has been known for years... Yet companies dismissed it because they didn't believe its oil and gas could be extracted using hydraulic fracturing or "fracking." As the Journal reported last week...

Although the area in question, Texas' Reeves County, is heavily drilled, most producers are focused farther north. For years, it was assumed that the layers in Alpine High would be too full of clay, which impedes hydraulic fracturing, the process of blasting sand and water into brittle rock layers to make oil and gas flow out. Prior explorers drilled more than 110 dry holes in the area.

But Apache wasn't convinced... It hired Steven Keenan – who previously led the team at shale-oil pioneer EOG Resources that unlocked the potential of the Eagle Ford deposit in South Texas – to take a closer look. And he has apparently done it again...

According to Apache, its early wells are producing oil and gas at a 30% profit margin at today's prices, including drilling costs. As Apache CEO John Christmann told the Journal...

This is a giant onion that is going to take us years to unveil and peel back. The industry dogma about this area, all the fundamental premises that most people had about it, were just wrong.

Stansberry Resource Report editor Matt Badiali believes this could just be the beginning of a trend we'll see for years – possibly even decades – in the U.S. He shared his thoughts on the news in a private note over the weekend...

There are many of these deposits around... in the Permian Basin and elsewhere. What happened here is that Apache's team unlocked the "code" to get the oil out. That's the key to this whole process. The oil is there... it's just figuring out how to get the oil out economically.

Apache has apparently done it though... It has leased a land area that's about half the size of the state of Rhode Island. It's a huge area.

Apache also appears to be starting out in the right way. Lease costs were around $1,500 per acre, well down from the tens of thousands of dollars per acre we saw in the boom. And fracking costs are way, way down right now. Apache believes it can make money here.

I may have a new trip to Texas on the books... This is a huge discovery.

Finally, this week's big event is quickly approaching...

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Thousands of subscribers have already registered to attend this free event... In fact, we're expecting one of the largest live events in Stansberry Research history.

We hope you'll be there, too. You can add your name to the invite list with one easy click right here.

New 52-week highs (as of 9/9/16): none.

A quiet day for the mailbag as one subscriber praises TradeStops. As always, send your thoughts to feedback@stansberryresearch.com.

"All I can say, is keep pushing TradeStops. What a game changer. Lifetime TradeStops user... Stay in the green and it seems pretty safe. Thank you." – Paid-up subscriber James R.

Regards,

Justin Brill
Baltimore, Maryland
September 12, 2016