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Behind Stock Market Selloff: China, Politics and Earnings

Tightening credit in China, changes in the US political landscape and ho-hum earnings are presenting a tough slog for investors wondering what to make of trends in 2010.

NYSE Trader
AP
NYSE Trader

Analysts scrambled to assess a trading day Wednesday that was shaping up to be the market's biggest selloff so far this year. Major averages fell nearly 2 percent despite some news that otherwise would be supportive of stock prices.

"We're going to have these major swings," says Kathy Boyle, president of Chapin Hill Advisors in New York. "Stocks are in a hammer pattern and it looks like they're rolling over."

Unpredictable mood swings are just part of the landscape for a market facing a variety of concerns:

Ho-Hum Earnings

The market is coming off consecutive quarters where earnings blew past expectations and stocks reacted accordingly.

But early returns among the big names have been mediocre, with even companies like IBMthat beat analyst estimates getting punished because of weak revenue growth.

A handful of banks stocks have been in the same category, with JPMorgan Chaseeasily beating estimates but facing a selloff because of fears on credit losses.

"Many analysts are overestimating improvements. They're projecting profitability improvement into last quarter's growing economy and are extending that forward," says Michael Kresh, president of M.D. Kresh Financial Services in Islandia, N.Y. "But we need consumers to get final, ultimate earnings growth."

Political Winds Blowing

Republican Scott Brown's stunning Senate victory in Massachusetts over Democrat Martha Coakley rattled not only Washington but Wall Street.

Not enough, though, to prevent a huge market selloff following an election that many observers were sure would be a boost to stocks.

"Basically the trillions of dollars on the sidelines, a large portion of that was not coming back to the market because they thought the US was going socialist, which it was to some degree," says Michael Cohn, chief investment strategist at Global Arena Investment Management in New York. "A watershed event? Absolutely, definitely. This is a huge wake-up call."

But the lack of reaction may have shown that investors had other things on their mind and would think more about the election results once their ramifications became clearer.

China Rattles Monetary Saber

"Today is more about China," says Uri Landesman, head of global growth strategies for ING Investment Management in New York. "There's this notion that there are some bubbles in China. We know that China's going to do some unstimulating efforts. It's a question of what they're going to do."

One of the pressing storylines is that the government will force banks to keep higher capital ratios on hand—a move seen as a de facto rate hike for the pressure it will put on banks to tighten their risk-taking.

If China chooses to stop dancing, the whole world is left without a partner.

"Chinese commodity demand could be a little spotty in the first half," Landesman says. "I don't think it's the end of the world. If people think the best is behind us, the commodities and cyclicals are going to be trading off."

Selling the News

Buying the rumor and selling the news is a time-honored practice by investors who seek to get ahead of the curve by buying low in anticipation of good news and then collecting profits after their stocks have risen. The practice seems to be in full play as the news cycle intensifies following a holiday lull.

Winterizing Your Portfolio - A CNBC Special Report
Winterizing Your Portfolio - A CNBC Special Report

"The last two quarters the news was bad enough but they were getting earnings by cutting costs, so the bad news was good news," Boyle says. "Part of what's happening now is the news is better, enough so that the government slows down the stimulus but not good enough to take us off to the races."

In such a climate, she says, anticipating the news cycle is especially important.

Boyle has long held a bearish position on the market and acknowledged "it's hard to give up the ghost." But she said investors can still buy selected areas of the market with tight stop orders to prevent any major losses.

Cohn advocates rebalancing, saying he's "hanging on the technology bandwagon" but selling off materials after the group has had a long run higher during the market rally and is up 3.7 percent year to date heading into Wednesday's session.

Similarly, Kresh, saying "no one ever went broke taking a profit," is also looking at getting out of over-performing sectors and into those with potential to grow.

"What we've been doing is looking at sectors that have significantly outperformed our expectations and we're taking some of that off the table," he says. "I like to do that on up days. On days like this we're looking around to see where we can find bargains."

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