Stocks surged Wednesday to end a three-day losing streak, posting the best single-session gain since the middle of August. The bulls waited as long as they could, rushing in to defend the S&P 500’s 50-day moving average.
This came after they watched in horror earlier this week as ongoing weakness in small-cap stocks pushed the Russell 2000 down through a “death cross” for the first time since 2011 — a result of the 50-day moving average dropping below the 200-day moving average.
The catalyst was, along with some good housing data here at home, the specter of more cheap money stimulus. It’s been the dominant theme of the market over the last few years. And it played its role yet again on headlines out of China that got investors excited that the Middle Kingdom — which has seen shares drop in response to disappointing economic data — was about to reopen the flood gates of liquidity.
Specifically, stocks elevated on reports that Chinese leader Xi Jinping was considering replacing the current head of the People’s Bank of China, Zhou Xiaochuan. Zhou is past China’ official retirement age (but was appointed to another term anyway) and has been a proponent of reform rather than stimulus (something that the top echelon of the Community Party leadership apparently supports as well).
A little background: After China’s bond trust scare earlier this year — fueled by the massive wave of credit-fueled growth in that country that has sent too much money after unprofitable investment in areas like real estate, coal, and steel — Chinese authorities responded with a mini-stimulus that quelled the crisis and was support to reignite growth.
Click to Enlarge But the results have been disappointing. Industrial production in August increased at the weakest rate since 2008. The Shanghai Composite has been sliding sideways for the last three weeks.
The thinking is that the Chinese are about to fall back on their well-worn growth model of cheap credit and a cheap currency. Not only will that boost the global economy, but it would provide relief to beaten-down commodity prices as well after the DB Commodities Tracking Index Fund (DBC), shown above, has cratered to levels not seen since 2010.
This was supported by a front-page editorial in the official China Securities Journal that lowering interest rates and adjusting China’s currency exchange rate may be the right policy combination for the country.
The problem with this strategy, of course, is that it’s losing its effectiveness and only increases the risk of a credit contagion problem down the road. But these are problems for another day, obviously.
While Wednesday’s rebound looked good on paper, there were blemishes that suggest the bulls’ didn’t have their heart in it. There were only 550 net advancing issues on the NYSE — well below the multiple 1,500-plus buying days seen coming out of the early August market lows. The result was also below the 750-plus day seen last Tuesday.
Click to Enlarge For now, I continue to focus on short plays in the still weak energy sector, such as the ProShares UltraShort Oil & Gas (DUG), which is up more than 7% since I recommended it to Edge clients back on Sept. 9, or the Oct $97.50 Exxon Mobil (XOM) puts, which are up 129% since I recommended them to Edge Pro clients back on Sept. 4.
Anthony Mirhaydari is founder of the Edge and Edge Pro investment advisory newsletters, as well as Mirhaydari Capital Management, a registered investment advisory firm.
