Blog : Stocks Take a Beating; Smart Money Added Risk in Q4

by Ed Zwirn on January 23rd, 2014

As of this writing, the market for everything from penny stocks to blue chip shares is taking a beating, with the Dow Jones Industrial Average off about 1.1%.The broader market is also performing badly (although not quite as badly), with the NASDAQ Composite and the small-cap Russell 2000 both off 0.9% so far today.

So far this week, the Dow is down about 1.6%, while the NASDAQ and the Russell 2000 are squeaking by with a 0.2% gain.

Driving this bear run for higher-priced shares is:

1) A set of disappointing earnings announcements, and

2) A report which came out before the market opening which raised fears of an economic contraction in China. The HSBC Purchasing Managers Index for that country (the world's second-largest economy) was down this month to 49.7. This is the lowest reading for this index since July. Anything below 50 indicates a contraction.

While disappointing earnings reports, or at least those making headlines, represent bad news for larger companies and weigh more heavily on the Dow than the broader market, the news from China should give pause to investors of all sizes. As anybody who follows the penny stocks recommended and tracked on the Peterleeds.com website should be aware, many of these companies are at least partly dependent upon exports.

Taking a broader view, a reverse for the broader market can only be bad news, assuming that the reverse is indicative of a correction in the making.

The evidence so far is that the market, having attained record levels as of the end of last year, is in a skittish state. That being said, stocks, after enduring a bearish summer last year, rebounded in a big way in the latter part of 2013, despite the "bad" news emanating from China then. The evidence also points to an improving outlook in both the U.S. and (significantly) in Europe.

The verdict is still out over whether the latest round of reports driving the market in a southerly direction are indicative of broader trends or an opportunistic setup for short-term traders. Look for more guidance on this question next week, with Thursday's next policy statement from the U.S. Federal Reserve, followed by Friday's initial estimate of U.S. Q4 2013 gross domestic product.

Concerning the Fed, the market is already expecting another "tapering" announcement, which would bring the monthly stimulus provided by the central bank's program of buying mortgage-backed and Treasury bonds down to $65 billion monthly, down from January's $75 billion. That being said, the Fed announcement will be closely parsed by investors for any change in outlook.

The GDP report also poses a risk/reward scenario. Any reading substantially below the robust 4.1% increase seen in Q3 could very well be interpreted as a retreat from this healthy growth rate and could indicate an economic retreat, even though these initial estimates are notoriously unreliable and are usually followed by major revisions, as was the case in Q3. 

Institutional Investors Hunger for Risk

If you have followed our recommendations, it becomes apparent that many of our hot penny stock picks benefit from a large measure of institutional investment. Investment entities like banks, pension funds and mutual funds are understandably more risk averse, and any bet placed by them on a speculative stock is undoubtedly a good sign.

In one indicator of the underpinnings of the bull run seen late last year, it appears that investors like these, facing lower interest rates and smaller yields for less risky investments, have become more risk tolerant.

According to a report this week by ING Investment Management International, institutional investors sought risky investments over the three months ended Dec. 31, with 56% increasing their risk appetite.

According to ING's latest quarterly survey of 79 global institutional investors, stocks as a hole were the main beneficiary of this trend, with 73% of investment professionals favoring equities, up from 64% in Q3. Real estate was second favorite at 45%, up from 34%. Only 11% of investors said they were looking for less risky investments, down from 18% for the third quarter.

Looking globally, investor sentiment rose for Japan, with 60% convinced that the economic policies introduced by Prime Minister Shinzo Abe would revive the Japanese economy, up from 37% in the previous quarter. Concerns about Europe, which were paramount one year ago, also receded. According to the survey, 37% of these insitutional investors cited the eurozone crisis as their greatest concern in Q4, down from 54% in the previous quarter.

The upshot for penny stock investors: The increase in the "smart" money's willingness to tolerate risk in order to get yield on their investments is an indicator that the solid performance seen by the market last year was no bubble. Assuming that this tolerance continues, the stock market remains on solid ground, despite today's upheaval. Especially with interest rates as low as they are, stocks still give better potential bang for the buck than bonds and this creates an undercurrent of support for higher risk appetite amongst the big guys.