It was probably not a coincidence that stocks ended their worst week of the year on the same day that Hillary Clinton gave a speech outlining her capital gains tax proposals. Stocks didn't crater just because of the speech, but it sure didn't help.
As I noted in a Money Morning Special Broadcast sent out just after the speech on Friday, the Democratic presidential candidate proposed to double capital gains taxes on most investors. There was no mention in her speech of any desire to extinguish the egregious "carried interest" tax that allows her richest private equity donors to pay lower taxes than their secretaries. But her proposal was neither about showing political courage nor intelligent tax and economic policy.
It was merely one more cynical effort to appeal to left-wing Democrats by a woman who is desperately searching for an original or compelling idea to support her candidacy…Someone call me when she finds one.
The presumptive Democratic nominee may also be trying to distract voters from the deepening scandal over how she mishandled her government emails. We learned this week that she sent at least four emails containing classified information from her personal email account while serving as secretary as state. Now two inspector generals at the Justice Department are requesting a criminal investigation into the matter.
It certainly would be a novelty to have the Democratic Party's presidential nominee under criminal investigation during the election – though the media and Mrs. Clinton might blame a vast right wing conspiracy for hijacking Mrs. Clinton's right arm and pressing the "Enter" button against her will.
It may be time for Mrs. Clinton's brain trust to have a serious sit-down with their candidate and regroup. The American people are going to determine whether they want "The Clinton Rules" to apply in a world that is facing increasingly severe economic and geopolitical challenges in the years ahead.
A president who doesn't understand the rudiments of tax policy and who answers questions with canned non-responses(when she deigns to answer them at all) is unlikely to be up to the job of leading this country. When we face the next financial crisis or the next confrontation with Russia or China or ISIS, we'll need leaders who inspire confidence.
Still, investors know that her proposal, which among other things could send money fleeing the stock market, will never see the light of day. Stocks were hurt primarily by the continuing collapse in commodity prices. But before we get to that, it should be noted that two stocks delighted investors with their second quarter earnings and skyrocketed afterwards…only to end up giving back about half of their post-earnings gains by the end of the week. Clearly some investors got ahead of themselves.
A Pull-Back in Exuberance
Google, Inc. (Nasdaq: GOOG) saw its stock rise by 93 points to close at a record $672.93 per share on July 17 after it reported earnings and better than expected expense controls under impressive new CFO, Ruth Porat. By the end of the week, however, the stock was back down to $623.56.
Amazon.com, Inc. (Nasdaq: AMZN) stock traded as high as $580 per share on July 24 after announcing a surprise profit but ended the week at $529.42 per share. Amazon's investors apparently failed to factor into their thinking the fact that the first $500 per share of AMZN's stock price were unsupported by any earnings whatsoever. They merely saw an unexpected $0.19 per share earnings in the second quarter and, in a classic, mindless knee-jerk reaction, bid the stock up another 16% before taking some profits the next day.
This type of price action is typical of a bubble; when coupled with narrowing market breadth, as it has been, it suggests a tiring bull market. The fact that the market failed once again to rally past previous highs for the year is a troubling technical sign.
Just a few days ago, the major indices were trading at or near all-time highs. On the week, however, the Dow Jones Industrial Average lost 2.86% to close at 17,568.53 and is now down 1.43% on the year. The S&P 500 shed 2.2% to close at 2079.65 and is now up a mere 1.01% on the year (excluding dividends).
The Nasdaq Composite Index, home to the Four Horsemen of the Apocalypse (when they finally come down to Earth) – AMZN, Facebook, Inc. (Nasdaq: FB), GOOG and Apple, Inc. (Nasdaq: AAPL) – alsolost 2.3% to close at 5088.62. The small cap Russell 2000 lost 3.1% in itsworst week since October 2014.
On Friday, biotech stocks took it on the chin but are still trading at ridiculous multiples despite incessant cheerleading for the sector on CNBC. In fact, the entire market is still trading at extremely rich valuations even after earnings misses for numerous companies.
In the last week alone, Dow components International Business Machines (NYSE: IBM), Caterpillar (NYSE: CAT), American Express (NYSE: AXP), and Microsoft (Nasdaq: MSFT) all came out with big earnings misses.
Of most concern, however, may be the fact that AAPL produced remarkably good earnings and still disappointed investors, sending its stock down 10 points immediately following its earnings release. AAPL stock ended up dropping from $129.62 a week ago to $124.50 on Friday after closing as high as $132.07 on Monday, July 20. This drop took place in spite of the company earning more than $11 billion during its second quarter. If that doesn't make investors happy, it is difficult to say what will satisfy them…And if the world's most highly valued company loses its mojo, the rest of the market could be in big trouble.
On the commodity front, WTI Crude Oil, the US benchmark, dropped 6% on the week and has lost 19% over the last four weeks. Every other major commodity has dropped as well – copper, iron ore, zinc, you name it. Commodity prices are suffering from a strong dollar and global economic weakness, the latter led by a clearly stumbling China. There is little reason to expect commodity weakness to reverse because the underlying trends are solidly in place. The dollar rally appears intact and China is stumbling.
The Rumblings of a China Collapse
Among the consequences of this will be further losses in commodity-related stocks and bonds. The high yield bond market, which has many borrowers linked to the commodity complex, sold off sharply last week in reaction to the commodity meltdown. The Barclays High Yield Bond Index has seen its yield increase by 30 basis points so far in July to 6.8%. But energy bonds have seen their yields widen by a much greater 150 basis points to an average of 10.01%, and basic energy bonds have widened by 87 basis points to 9.28%…In the bond world, this is a bloodbath.
China was much in the news last week when it was revealed that Bridgewater Associates, the world's biggest hedge fund, had suddenly turned negative on its outlook for the country after being bullish just two weeks earlier. It is becoming increasingly clear that the Chinese government was using the stock market to prop up the country's over-indebted and flailing economy. The collapse in Chinese stocks will therefore have a very negative impact on the country's growth overall.
China has been the primary motor of global economic growth since the 2008 financial crisis, but this motor has been fueled by an increase in debt from $7 trillion, before the crisis, to more than $28 trillion today. This debt explosion is unsustainable and may now be running out of steam. China's economy, which had been growing in the high single digits and serving as a major buyer of all global commodities, may be growing at only 2-3% today (and perhaps less).
China is at a cross-roads, and the steps taken by the government to effectively shut down the stock market's normal operations, rather than let the losses run their course, has created a crisis of confidence in China's ability to manage its economy through this difficult period…
It's an unquestionably difficult week when we barely have space to discuss Greece. Suffice it to say,the latest Greek bailout plan is still being negotiated, and whatever agreements are reached will not save Greece from Europe, nor Greece from itself…nor even Europe from Greece. For the moment, however, Greece is truly the least of the global economy's problems.
The world is suffering from too much debt and too little growth, and that is the troubling message that commodity markets are sending. With a narrowing group of stocks rising and the rest of the market falling behind, investors would do well to follow the advice that I have been offering for months: reduce their equity exposure before something serious goes wrong and the market enters correction territory.
About the Author
Prominent money manager. Has built top-ranked credit and hedge funds, managed billions for institutional and high-net-worth clients. 29-year career.