Markets are Functioning, Period.

We got a spate of bad news this week, the market came in a bit and the most egregious offenders in Rallytown got slammed (the S&P Materials sector was off 4.5% or so on the week).

This is how markets are supposed to function.  They are digesting and discounting current headlines and the longer-term consequences these headlines portend.

Bill Gross‘s Treasury sale news reminded us all that the end of QE is nigh and that PE multiple compression for equities would be a likely reality – so we sold off.  In an unhealthy market, extreme-sounding newsflow like what came from Pimco would be blown completely out of proportion and turned into a meme of mayhem.

In reality, Gross simply feels he’s not being rewarded with enough yield – he expects the 10-year to sell-off back to a 4% yield from its current 3.5%.  And we didn’t “collapse” or “implode”, we just rousted some of the bears and lost some bulls.  All expected, all healthy market activity.

Earnings-related weakness in the screaming optical names knocked the Nasdaq techs down a peg.  Good.  Let’s put the Finisar ($FNSR) sell-off in perspective:

  • This is a stock that had run from 12 to almost 50 in less than 10 months
  • It is a highly-specialized component supplier to a niche vertical
  • It has a beta of over 3(!) so volatility is both its race and religion
  • It is still up 50% in the last 52 weeks versus a gain of only 13% for the S&P 500

In other words, Frankie Say Relax – so Finisar is is whacked for 40% in three days.  They deserved it.

And the discounting mechanism in its peer group worked as well, JDSU gave up a fifth of its market cap because it is guilty by association, the Op Twins, Opnext and Oplink, paid the price as well, down 20% and 12% respectively.  In 2008 or 2009 a bludgeoning like that would’ve easily carried over into the semis and software names leading to a nasty cascade.

But we’re not doing the brushfire, cascading thing.  We’re doing the stocks-will-be-stocks thing.  We’re seeing sectors with the biggest excesses take their medicine, bold moves by strategists be taken with a grain of salt and company-related bad news being contained to the requisite sub-sector.

The markets are healthy and functioning right now, period.

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