Unprecedented volatility hit financial markets on Friday, as the electorate of the United Kingdom opted to exit the European Union on Thursday. The surprising decision sparked a historic decline in the British pound and, in turn, European stocks. Traders across the globe were shocked by the extent of the moves, and it brought back memories of the “Lehman-moment” back in October 2008. But before investors panic, the Gorilla would like to point out the continued strength of the U.S. indices. Even after the “mini-crash” on Friday, the Dow and the S&P 500 are actually above their two-week lows, giving bulls no reason to be seriously concerned just yet.
The long-term effects of the “Brexit” are unpredictable, but the Gorilla thinks that the usual “take a step back and let the market speak” approach is the best one that investors can follow here. Domestic stocks have been impressively resilient to international shocks so far this year, and bulls hope that Wall Street emerges stronger again after the dust settles. Economic news continues to be a mixed bag, as the number of new jobless claims is still very low, but durable goods orders and home sales are showing early signs of a slowdown. Traders will keep a close eye on Tuesday’s final GDP and consumer confidence reports, as well as Friday’s manufacturing PMI.
Had the week ended on Thursday, the technical picture would have been nothing short of spectacular. The major indices got close to their all-time highs, and small caps continued to outperform the broader market as well. Friday’s session changed all that, of course, but the underlying trend remains bullish nevertheless. All indices closed below their 50-day moving averages after Friday’s massacre, but the Dow and the S&P 500 stayed above the rising 200-day moving average. The Nasdaq is back below its long-term average, as the tech benchmark remains the weakest link on Wall Street, with the Russell 2000 still looking promising. The Volatility Index (VIX) shot up by more than 20% on Friday and finished above 20, at 25, for the second week in a row.
Market internals also took a hit on Friday, but the most reliable measures remain positive for now. The Advance/Decline ratio registered new highs yet again last week, as small caps continued to impress. For the week, declining stocks outnumbered advancing issues by a 3-to-2 ratio on the NYSE and by a 3-1 ratio on the Nasdaq following Friday’s rout. The daily number of new 52-week highs jumped to 150 on the NYSE and rose to 64 on the Nasdaq. The number of new lows declined to 20 on the NYSE and to 58 on the Nasdaq. The ratio of stocks above the 200-day MA crashed to 57% on Friday, from 67% on Thursday, as financials and export-heavy companies declined sharply.
The most notable change on the list of the most shorted stocks on the NYSE and the Nasdaq came from SolarCity (SCTY). The solar panel manufacturer received a controversial takeover bid from Elon Musk’s other company, Tesla (TSLA), forcing shorts out of their positions. The short interest ratio of SCTY fell below 40%, as INSYS Therapeutics (INSY) remained on the top spot of the list with a ratio of 74%. Educational services provider ITT (ESI) is high on the list as well, with a short-interest of 55%, as the shares of the struggling company are down by more than 90% since 2014. Bears are still in deep trouble regarding VeriSign (VRSN), as the day-to-cover ratio (DTC) of the stock is now close to 30, with no sign of weakness in the price action.
So after an unforgettable week, the Gorilla sees calmer waters ahead, although further correction is possible following Friday’s global crash. Financial stocks should remain on investors’ radars- it’s no surprise that central banks rushed to provide liquidity for the segment to avoid systemic issues. On the other hand, investors shouldn’t forget that although the “Brexit” is a negative outcome for the global economy, it is not going to actually happen for at least a year (if not much longer). Also, its effects on the U.S. economy and domestic companies should be fairly limited. With that in mind, the cautiously optimistic Gorilla hopes for a healthy bounce towards the recent highs in stocks. Stay tuned for a, hopefully, more promising and more relaxed week to mark the end of the second quarter!