Stocks bounce as bargain hunters jump in. Stocks bounced back more than 1% today as market participants got a bit more comfortable with Brexit-related uncertainty, looked for bargains, and took advantage of a technically oversold market. Gains in key European market indexes were roughly double those in the U.S., with stability in currency markets helping. Meanwhile, markets priced in less volatility, with the VIX, a measure of implied volatility, falling back below 20.
S&P 500 sector performance reflected a reversal of the post-Brexit risk-averse environment. Two of the sectors hit hardest by Thursday’s vote, financials and energy, topped the sector rankings today.* The global—and heavily Europe-exposed—technology sector also outperformed. On the other side of the coin, the defensive, high-dividend-paying sectors (utilities, telecom) that have held up best during the past two trading sessions were the biggest laggards as market participants fled the safety trades (which hurt gold as well). And concerning market cap size, as is typical on a big up day, small cap stocks fared best.
What We Learned Today on Brexit
As we noted in yesterday’s market close blog, markets want to see swift and substantive progress in the U.K.’s negotiations to leave the EU. Developments today were, at best, a mixed bag; but some of the market gains following a two-day sell-off may be attributed to markets becoming a little more comfortable with some of the possible paths of a U.K./EU “divorce” (and there are many). Or, today’s action is merely due to some of the global investors who bet against the market taking some profits and covering short positions.
Party politics in the U.K. continued to contribute to uncertainty, with both the ruling Conservative Party and opposition Labour Party in turmoil. Markets are watching the parties closely because one of the possible market-friendly resolutions to Brexit would be new elections in which both the candidates are pro-EU. This would make the next election (potentially taking place as soon as later this year but not required by constitution until 2020), in effect, a second referendum. Without leaders identified by either party, it’s hard for markets to gauge the likelihood of this occurring.
Another angle getting some attention is the idea of “Brexit Lite,” whereby the U.K. keeps all or almost all of the trade deals it has in place with the EU, but restricts immigration. Nevertheless, free trade and immigration are likely to remain linked. The “leave” camp in the U.K. wants free trade without free movement of people, but the message from EU leaders today (and in recent days) has been that you can’t have it both ways.
Of course, none of this can happen unless the U.K. Parliament actually triggers Article 50, opening negotiations with the EU on the terms of the divorce. The market still wants to know 1) when this will take place, 2) who will be in charge in the U.K. when it does, 3) how fast the negotiations will be resolved, and 4) how close the divorce agreement will be to the current state of affairs.
*The 10 S&P sectors are as follows: energy, materials, industrials, consumer discretionary, consumer staples, healthcare, financials, information technology, telecommunication services, and utilities.
The opinions voiced in this material are for general information only and are not intended to provide or be construed as providing specific investment advice or recommendations for any individual security. All performance referenced is historical and is no guarantee of future results. All indexes are unmanaged and cannot be invested into directly.
Investing in stock includes numerous specific risks including: the fluctuation of dividend, loss of principal and potential illiquidity of the investment in a falling market.
Investing in foreign and emerging markets securities involves special additional risks. These risks include, but are not limited to, currency risk, geopolitical risk, and risk associated with varying accounting standards. Investing in emerging markets may accentuate these risks.
Because of its narrow focus, investing in a single sector, such as energy or manufacturing, will be subject to greater volatility than investing more broadly across many sectors and companies.
Selling short can result in losses should the borrowed security increase in price, rather than decline. The theoretical potential loss is unlimited. Additionally, short sales will incur interest on the borrowed shares while also being subject to margin calls, or early sales in the event that the original owner wishes to sell their position
The S&P 500 Index is a capitalization-weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.
The VIX is a measure of the volatility implied in the prices of options contracts for the S&P 500. It is a market-based estimate of future volatility. When sentiment reaches one extreme or the other, the market typically reverses course. While this is not necessarily predictive it does measure the current degree of fear present in the stock market.
Oversold: A technical condition that occurs when prices are considered too low and ready for a rally. Oversold conditions can be classified by analyzing the chart pattern or with indicators such as the Relative Strength Index (RSI). A security is sometimes considered oversold when the Relative Strength Index (RSI) is less than 30. It is important to keep in mind that oversold is not necessarily the same as being bullish. It merely infers that the stock has fallen too far too fast and potentially may be due for a reaction rally. The caveat is that sometimes when prices are in an oversold condition they may stay that way until the trend reverses, which is classified as momentum.
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