Two observations about Friday’s very late in the day meltdown:

The first is that, as I have been pointing out for years, there is a pronounced tendency for the major averages to decline on the last trading day of the month, as for instance even in 2013 when they have risen for all five months of the year, they have actually been lower on three of those five final trading days.

Practically every one of the television touts who appeared late in the day and after the close flippantly attributed the selloff to the MSCI “re-balancing”, which of course none of them explained what this re-balancing involved, but it was an easy “explanation” for what had happened. So I took the trouble to look this up and found the following – for the MSCI Global Standard Indices, 60 companies will be added and 61 deleted, and none of these were U.S. listed companies; for the MSCI Global Small Cap Indices there were 372 additions and 334 deletions; for MSCI U.S. large-cap equity indices there were 3 additions and 5 deletions and for the MSCI Small Cap 1750 Index, there were 90 additions and 49 deletions. According to their website, all of this amounted to a net outflow of $300 million.

Of course, the net outflow of $300 million probably does not account for the last-hour meltdown, which was probably the usual function of the market’s tendency to end lower on the final trading day of the month, and why this pattern tends to manifest itself is that according to my sometimes conspiratorial view of things, I believe that market makers want lower prices on the final day of the month in order to mess up the statements of individual investors as much as possible by showing that their holdings are worth less than these people might have thought, and then possibly causes them to sell out unnecessarily because they get discouraged. Of course this thesis can be argued back and forth, but one cannot argue with the tendency for this lower phenomenon to take place on the last day of the month, and so be it.

The Dow did open 61 points lower, then rallied back to a gain of 68 at its 11:15am high, but then went negative once again at 1:30pm. At 3:20pm, it was now down by 75 points, from which level it underwent a complete textbook (or more than textbook) very late in the day meltdown to finally end with that 209 point closing loss. Breadth numbers were awful at a 1 to 5 negative ratio and the VIX continued moving higher with a 1.77 advance to 16.30.

Most of the Dow stocks that had been doing poorly lately on that movement away from the higher dividend paying stocks such as utilities, telecom and consumer issues, continued to do poorly, such as PG, JNJ, UNH, plus stocks that are more cyclically sensitive, which also did poorly, so in a sense on Friday the Dow was an equal opportunity destroyer of value, with CVX, XOM and even the very strong bank stocks finally succumbing at the end.

The outside markets reacted in their own way to the economic reports du jour, as we saw a very mixed picture to reports that were released, as for instance both April personal income and personal spending came in lower than estimated, and the latter actually declined for the first time in almost a year and already low inflation declined even further as the April PCE deflator index fell by more than predicted as well. On the other hand, the final May U. of Michigan Consumer Sentiment Survey rose to its highest level since July 2007 and the May Chicago Purchasing Managers’ Survey came in much higher than expectations as well. So now what does the Fed do because of these reports – do they keep their foot on the accelerator or begin to ease off?

Bond yields stayed the same at 2.12% for the 10-year Treasury note after starting out higher at 2.18% but then apparently decided that if stocks were going lower, then the economy must be slowing down as well. The Euro also remained steady around 1.300 and crude oil took a downside beating as it dropped down to $91.70 on its inherently bearish fundamentals and gold also got sold off sharply, perhaps a reflection of the lower April PCE deflator.

Now that the month of May has come to an end, there are all sorts of statistics that are in the history books, as Friday was the worst day in a month and a half and the major indexes settled at two and a half week lows. The losses for the week were the first consecutive weekly declines since November. On the more optimistic side, the market has now advanced for seven straight monthly gains, which is the longest such streak since September 2009 and for the month the Dow rose by 1.9%, the S&P was ahead by 2.1% while the Nasdaq did the best with a 3.8% advance, about the same as the Russell 2000 Index of small stocks.

On the other hand, the Treasury market had its worst month since December 2000 as yields rose on the assumption that the Fed is going to pull back its current stimulus programs sooner rather than later, although this is unknown at the present time and will obviously be a function of economic reports going forward, with Friday’s May jobs number being the big one in this regard and more on that as the week moves ahead.

After Friday’s downside shellacking, things looked as if they were set to start out higher, as the various stock futures were indicating a decent opening. But as soon as the market opened, the pattern shifting to a mixed to very negative one, as the Dow has been higher all day, trying to compensate for its miserable performance on Friday, as it has been in a range of 20 to 107 points higher, but this is completely out of whack with the rest of the market, as breadth numbers are awful at worse than a negative 1 to 2 ratio. The S&P, Nasdaq and Russell Indexes are all lower, and in fact the Nasdaq is sharply lower with losses of as much as 36 points at the 11:30am low for all of the indexes. This means that the Nasdaq will only get better if the Dow leads it higher which is the reverse of the usual pattern, as the high-priced technology stocks, which did well overall last week, are really taking it on the chin today after opening steady to slightly higher, with AMZN, AAPL, GOOG, NFLX and PCLN all exhibiting that pattern. The only exception to this is INTC, which is putting in a very strong performance after some upgrades and this is also helping the Dow to do better.

And talk about helping the Dow, once again when it gets separated from the rest of the market as it is today, it is because of a few components moving strongly in one direction, and we are seeing MRK, BA, MCD and INTC adding 40 Dow points just on their own.

One group that is weaker today is the bank stocks, despite the fact that they have done so well this year, and the weekly financial magazine that comes on Saturday strongly recommended the purchase of BAC calls at the 14 strike price to benefit from a move to above that level. This strategy so far has backfired, as on Friday the stock got up to 13.99 and then fell back as the overall market tanked, leaving a huge open interest of 57,000 positions worthless. Today it is also falling back as the number of open positions at that strike price level continues to build and we will see how that strategy works out as the week moves on.

The VIX is really having an upside field day today, continuing its recent pattern of ignoring up days and going much higher on down days. It is currently up by a large .82 relative to the current Dow advance of 57 and the S&P decline of only 2, so these participants are really taking a dim view of things and it is now at its highest level since April 18th when the market reached the bottom of its largest correction of the year so far at 3.8% and the S&P was 1541 as opposed to its current level of 1628, so go figure.

Bond yields are lower, with the 10-year down to 2.11% on the weaker economic reports today, which included April Construction Spending showing a lower gain than expected and the May ISM Manufacturing Survey declining to 49, which shows contraction, down from 50.7 last month and it is noteworthy that this overall number went so contrary to the Chicago number on Friday, which came in much stronger than expected as previously mentioned. The dollar also weakened on these numbers as well, with the Japanese yen below 100 for the first time in a month and the Euro rising sharply up to 1.308. Gold also made a strong move higher, as it now seems as if that $1,350 level on the downside is going to hold for the very foreseeable future, while crude oil is doing what the oil companies want it to do in the summer driving season period with a gain up to around $93 a barrel on the ironic fact that the weaker economic reports, which one would think would make it go lower, are causing the dollar to weaken so this is bullish for commodity prices.

As earnings season is basically over for the first-quarter, 70% of the S&P companies have beaten their earnings forecast, which compares to the average from the last four quarters at 67% and the average from 1994 of 63%. Revenues have only beaten in 48% of the companies, and this compares to an average beat rate of 62% in the last year and 52% since 1994. Earnings are projected to gain 5%, which is now above the January estimate of 4.3% and well above the April 1st projection of only 1.5%, which is an obvious reason why stocks have done so well lately.

This week will be highlighted by the May jobs report that will be released on Friday, and the current estimate is for a gain of 165,000, which would be the same as last month and we will discuss this more as the week moves ahead. Other reports will be: Tuesday – April trade deficit; Wednesday – oh, no – the ADP estimate for Friday’s jobs report, April factory orders, Fed Beige Book; Thursday – weekly jobless claims and then on Friday the big one.

First quarter earnings rose by 6.2%, increased by 5% for the second-quarter, were flat for the third-quarter and were 6.3% higher in the fourth-quarter. The current projection is now for a gain of 5% in the first-quarter of 2013.

The S&P trades at 15 times the projected 2013 earnings of $111. Earnings were $85 in 2010, $92 in 2011 and $102 in 2012. The estimate for 2013 is $111, a gain of 9%. The average P/E multiple for the S&P going back to 1954 has been 16.4 and it has been 14.4 for the last 10 year’s average.

After four consecutive quarters of negative G.D.P. growth, we have had 15 consecutive quarters of positive growth, starting with the third-quarter of 2009,
every quarter in 2010, every quarter in 2011, and every quarter in 2012. G.D.P. rose by 2.2% in 2012, and is projected to increase by 2% in 2013, according to various surveys, with 2.5% in the first-quarter and then in the low 1’s for the second and third-quarters before a fourth-quarter acceleration to over 4%.

Donald M. Selkin

Don Selkin is the Chief Market Strategist at National Securities Corporation, member FINRA/SIPC, (NSC) and provides the Fair Value analysis for CNBC each morning. The commentary provided in this Market Letter is intended to provide our customers with timely market analysis and should not be considered a research report. This Market Letter may contain, and is limited to: Discussions of broad based indices; Commentaries on economic, political or market conditions; Technical analyses concerning the demand and supply for a sector, index or industry based in trading volume and price; Statistical summaries of multiple companies’ financial data, including listings of current ratings; and, Recommendations regarding increasing or decreasing holdings in particular industries or securities. This Market Letter does not make a financial or investment recommendation or otherwise promotes a product or service of the firm. This Market Letter contains only news, facts, and commentary on information previously reported from a news source believed to be accurate and reliable by the author. These news sources include the following: {Bloomberg Financial, Reuters, Associated Press}.