Wall Street braces for more volatility ahead: ‘It could go up huge or it could go down huge’

Stocks have whipsawed investors more in the past two weeks than they have since early October, and it’s likely that type of volatile trading will continue.

Even with Monday’s rally, analysts were skeptical that the market would be able to recover its bullish composure. The Dow was up as much as 374 points, but a round of coronavirus-related headlines deflated its gains in late morning trading. In early afternoon trading, the Dow was more than 225 points off the high.

“The market is a wild animal right now,” said Julian Emanuel, head of equities and derivatives strategy at BTIG. “It could go up huge or it could go down huge, but the key is how do stocks react to the massive amount of incoming news over the next several days.”

Emanuel says he’s sticking to a year-end target of has a target of 3,450, but he said it’s possible stocks could dip to his downside target of 3,070 in a sell-off. Even before investors became aware of the coronavirus, Emanuel said he had expected the market to get more volatile, just because it had become so overbought.

In the past two weeks, the S&P 500 has had its first moves of more than 1%, both lower and higher, since early October.

The Iowa caucuses Monday could also create more volatility, if progressive candidate Vermont Sen. Bernie Sanders wins and then picks up momentum in other states. Sanders is leading in the polls in Iowa, and is also ahead in New Hampshire, which holds its primary next week.

“The impeachment and the election have not been factors in the market so far. That could begin to change tonight,” said Art Cashin, head of floor operations at UBS. “If the market begins to feel [Sanders] is going to make headway in the first three states, things could begin to change.”

It’s too soon to say whether Sanders will get the Democratic nomination, but analysts say he would be a negative force for markets, based on his tax, health care and other policies. Analysts said it’s likely President Donald Trump would beat Sanders, who is seen as far more negative for the market than more moderate, former Vice President Joseph Biden, who had previously been in the lead in Iowa.

“Our presumption is if the moderates do better than expected versus the progressives that should be market positive,” said Emanuel. “We are not so presumptions to know how the market is going to respond right now because you have this exogenous factor—the coronavirus.”

The Center for Disease Control reported an 11th confirmed U.S. case in California Monday, and there were news reports that it was preparing for “pandemic.” That headline and an earlier report that Carnival confirmed one of its passengers tested positive in Hong Kong for coronavirus, rattled stocks.

Goldman Sachs economists Monday said they expect coronavirus outbreak to reduce Chinese GDP growth in the first quarter of 2020 by 1.6 percentage points, and global growth could be impacted by 1 percentage point. Then growth is expected to rebound, and global growth would be hit by 0.1 or 0.2 percentage points for the year.

“Nobody is going to be immune from a sharp drop in the Chinese economy,” said Peter Boockvar, chief investment officer at Bleakley Advisory Group. It “is infecting the economy… at a time when things were fragile to begin with.”

Boockvar said the morning’s rally was too strong a bounce back reaction, after Friday’s sell-off.

But Emanuel expects that type of see-saw market, with whippy action. “With all this incoming news, when the market becomes more volatile, as we believe it will become, you could get a day’s worth of price action in 30 minutes, several times a day,” said Emanuel.

Morgan Stanley analysts, in a note, said investors should expect more of a correction, but not that much more. “We continue to think this correction will be contained to 5 percent in the S&P 500,” the Morgan Stanley strategists wrote. “Our large cap defensive bias has worked well this year and we think that continues until 10 year Treasury yields bottom which appear on track to challenge the all time lows at 1.35%. The bottom line is we think there is strong support at 3100 on the S&P 500 both technically and from a valuation standpoint.”

But others sounded more negative, including Mohamed El-Erian, who warned investors not to buy dips like they would have done prior to the spread of the virus, now affecting about 17,500 people. El-Erian, Allianz chief economic advisor, said on CNBC Monday that the outbreak is going to take a major toll on the Chinese economy and hurt global growth.

Widely watched hedge fund investor David Tepper told CNBC’s Jim Cramer, in an interview for TheStreet that the coronavirus has “ruined the environment” for stocks that was in place a few weeks ago. Tepper, who runs Appalloosa Management, had told CNBC two weeks ago that he thought the market would keep climbing, saying “I love riding a horse that’s running.”

On a technical basis, Instinet’s Frank Cappelleri says the next few days’ market action could help decide how bearish the market’s tone has become.

“For months, you didn’t have any type of bearish pattern pop up much less follow through,” said Cappelleri, Instinet executive director. That changed in the past two weeks with the more than 3.7% peak to trough decline in the S&P 500.

If the market does not continue moving higher and return to its highs, there could be a steeper pullback, due to a bearish setup. The downside target would be 3,130.

“A lot has to do with how this initial lift works out today,” he said. The S&P 500 was trading at about 3,250 in afternoon trading. “We still have to be concerned if the next lift is a lower high,” which would be negative, he said. “We’re so used to having any pullback being 2 to 4%.”

Emanuel said it might have been a healthier reaction if stocks continued lower after Friday’s big sell-off and the expected 7.8% decline in Shanghai, when its market reopened early Monday.

“You really wanted a much more cathartic event. Obviously, you’re starting to price in Fed rate moves this year,” said Emanuel, adding he does not expect any moves from the Fed in 2020. But the market is responding to the idea of easier central banks, including the People’s Bank of China.

Source: Instinet