5 Reasons Stocks Are Falling Right Now

stock market - 5 Reasons Stocks Are Falling Right Now

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It was the best of the times, it was the worst of times. The timeless quote from Charles Dickens’ A Tale of Two Cities has been particularly applicable to the stock market over the past five months.

Through the last three months of 2018, it was the worst of times for the stock market. Stocks dropped big and even flirted with bear market territory amid a plethora of headwinds. Economic growth globally was slowing. The Fed was aggressively hiking rates amid that slowing growth trend, while also aggressively unwinding their balance sheet. U.S. and China trade talks were at a standstill. Demand across certain global markets (semis, autos, etc) just vanished entirely.

Then, things changed.

Through the first two months of 2019, it was the best of times for the stock market. Stocks rose big, without much volatility or many red days, amid a plethora of tailwinds that had emerged out of late 2018’s headwinds. Economic growth started to stabilize and even show signs of improvement. The Fed backed off its aggressive rate-hike strategy and is now even backing off its balance sheet runoff. U.S. and China trade talks are progressing nicely. Demand came back in certain sectors of the global economy.

Now, that narrative is changing again slightly. To start March, stocks have dropped. Specifically, the S&P 500 is already down 2% in March, following a 12% gain in January and February.

So why are stocks down? Let’s take a deeper look at five reasons why the stock market is dropping in March.

Stocks Have Come Very Far, Very Fast

Perhaps most importantly, investors should understand that stocks had come very far, very fast in early 2019 and were due for a pullback, regardless of fundamentals.

As stated earlier, the S&P 500 was up 12% through January and February. If that growth rate had kept up for the whole year, that would represent a nearly 100% return. The S&P 500 hasn’t had a 100%-plus return year ever. In fact, even though 12%-plus return years do happen, they aren’t the norm. Depending on who you ask and whether or not you adjust for inflation, the average annual return for the S&P 500 is somewhere between 7% and 10%.

Thus, after surging 12% through the first two months of 2019, the stock market was due for a pullback. It’s also worth mentioning that volatility was essentially non-existent, and volatility most often tends to surge just after it becomes non-existent. 

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We Hit Technical Resistance

The S&P 500 took back the critical 2,800 level in late February, and the next big technical level to watch was 2,817, the mid-October high. Stocks hit that level in early March, and have been on a downtrend ever since.

In other words, after taking out multiple technical resistance levels over the past two-plus months, stocks finally hit a wall they couldn’t break through. That wall was the mid-October high, and it’s no coincidence that after failing to break through that level, a market-wide selloff has followed.

The next key technical level to watch for is 2,750, which is roughly where the S&P 500’s 200-day moving average is today. That’s a big one. Stocks broke above the 200-day in mid-February in a move that signaled the bull market is trying to make a comeback. If stocks once again drop below that 200-day, then you could get further weakness in the stock market as technical-leaning investors sell.

Expensive pricey stocks

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Valuations Got Extended

One of the biggest things working for bulls in early 2019 has been a favorable valuation backdrop. Simply, stocks got way too cheap in late 2018, and were due for a bounce back based on valuation alone.

That is no longer true today. Back when the S&P 500 was at 2,500, the forward earnings multiple for the index was narrowly above 14, which is a multi-year low valuation level. Today, though, the S&P 500 trades at over 16 forward earnings, which is simply a normal valuation level for the index.

As such, the favorable valuation backdrop that was working for stock market bulls in early 2019, may not work for much longer. Further gains will have to be justified by improving fundamentals and bigger profit growth.

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Growth Is Still Slowing

Recession fears have backed off, and it increasingly appears that global economic growth is stabilizing. But it’s stabilizing at lower levels than what we have seen over the past several years, and that’s reason for pause with stocks trading at normal valuation levels.

Specifically, China has cut its 2019 GDP growth forecast to what would be the lowest level in several years. The ECB likewise slashed its Euro area GDP growth forecast to a multi-year low. U.S GDP growth estimates are also being revised lower.

Overall, growth globally is stabilizing, but it’s stabilizing at lower rates. With lower growth as the new norm, stocks may need to take a step back here to allow valuations to reflect that.

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Earnings Weren’t Great

In a nutshell, the fourth-quarter earnings season was good, but not great. It reflected the reality that the U.S. and global economies are slowing from red-hot growth over the past two years.

To be sure, roughly 70% of companies still topped Q4 profit estimates, while 60% topped revenue estimates. But that 70% profit beat rate is the lowest beat rate since Q4 2016, and the average revenue beat was by just 0.3%, which is below average. Also, there were a number of negative guides and the S&P 500 saw its largest cut to next quarter’s EPS estimates since early 2016.

As such, it’s reasonable to see stocks take a minor step back here as some investors re-assess the stock market’s growth outlook for the remainder of the year.

As of this writing, Luke Lango did not hold a position in any of the aforementioned securities. 

Article printed from InvestorPlace Media, https://investorplace.com/2019/03/5-reasons-stocks-are-falling-right-now/.

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