At the end of last week, I said “it looks like the all-clear signal has been given to stocks.”
Well, we had some more discomfort to deal with this week, but that statement probably has more validity today than it did last Friday.
With that, let’s review the events and conditions of the past two weeks, that build the case for that all-clear signal.
As of last Friday, more than half of first quarter corporate earnings were in, with record level positive surprises in both earnings and revenues (that has continued). And we got our first look at first quarter GDP, which came in at 2.3%, better than expected, and putting the economy on a 2.875% pace over the past three quarters.
What about interest rates? After all, the hot wage growth number back in February kicked the stock market correction into gear. The move in the 10-year yield above 3% last week started validating the fears that rising interest rates could quicken and maybe choke off the recovery. But last week, we also heard from the ECB and BOJ, both of which committed to QE, which serves as an anchor on global rates (i.e. keeps our rates in check).
Fast forward a few days, and we’ve now heard from the last but most important tech giant: Apple. Like the other FAANG stocks, Apple also beat on earnings and on revenues.
Still, stocks have continued to trade counter to the fundamentals. And we’ve been waiting for the bounce and recovery to pick up the pace. What else can we check off the list on this correction timeline? How about another test of the 200-day moving average, just to shake out the weak hands? We got that yesterday.
Yesterday, in the true form of a market that is bottoming, we had a sharp slide in stocks, through the 200-day moving average, and then a very aggressive bounce to finish in positive territory, and on the highs of the day. That took us to this morning, where we had another jobs report. Perhaps this makes a nice bookend to the February jobs report. This time, no big surprises. The wage growth number was tame. And stocks continued to soar, following through on yesterday’s big reversal off the 200-day moving average.
With all of this, it looks like “the all-clear signal has been given to stocks.”
We will get the important Q1 GDP number tomorrow. We’re already seeing plenty of evidence in Q1 corporate earnings that the big tax cuts have juiced economic activity. Not only do we see positive earnings surprises and record margins, but we’re getting positive revenue surprises too. That means demand has not only picked up, but it has exceeded what companies and Wall Street have expected.
Tomorrow will be another big piece of evidence that should prove to markets that the economy has kicked into another gear, and that an economic boom is underway. Remember, we looked earlier in the week at the sliding expectations for tomorrows growth data. Reuters poll of economists has pegged Q1 GDP expectations at 2%.
Remember, we’re coming off of two quarters of 3%+ growth. And that was before the realization of big tax cuts, which not only has increased profitability for companies, wages for employees and savings for tax payers, but has fueled confidence in the economy and the outlook. And fuels economic activity.
So, at a 2% consensus view on tomorrow’s GDP number, we’re setting up for a positive surprise on GDP. That should be a low bar to beat. And if we do get a beat on GDP, that should be very good for stocks.
As we’ve gone through this price correction in stocks, we’ve been waiting for Q1 data (earnings and growth) to become the catalyst to resume the bull trend for stocks. And it has all lined up according to script. We’ve gotten big beats in the earnings data, as we suspected. We’ve retested the 200-day moving average in the S&P 500 in the past couple of days, as suspected. And as we discussed yesterday, we have two big central bank meetings (the ECB this morning, and the Bank of Japan tonight) which should calm the concerns about the pace of move in the global interest rate market (i.e. as the ECB did this morning, the BOJ should telegraph an appetite for continued asset purchases – which continues to serve like an anchor on global interest rates).
Bottom line: With a good GDP number tomorrow, we should be on the way to a big recovery for global stock markets, to reflect an economy growing back around trend growth, corporate earnings growing a 20% and a valuation on broader stocks that remains cheap relative to the low interest rate environment.
We get a close above 3% for the 10-year yield today. This continues to capture the attention of markets, as we made another run at the 200-day moving average this morning in the S&P 500.
With all of the attention on rates, this makes the central meetings over the next 36-hours interesting. We’ll hear from the European Central Bank tomorrow morning, and the Bank of Japan tomorrow night.
Remember, we have an historic divergence in monetary policy path of U.S. relative to that of rest of the world, particularly Europe and Japan. Here’s a great graphic by the Council of Foreign Relations …
You can see the U.S. and Canada are normalizing rates coming out of the global economic crisis of the past decade. And the rest of the world is still trying to juice the economy with more aggressive monetary stimulus.
In a normal world, global capital flows into countries that are growing, with interest rates that are rising. That hasn’t translated in this post-crisis world. The Fed has been hiking rates since 2015. And the dollar index is actually lower than the levels from which the Fed started its rate normalization program.
Why has the dollar not taken off? Because the exit of emergency level policies in the U.S., and the improvements in the U.S. economy, have paved the way for exits of emergency policies in Europe and Japan. That has promoted global capital to flow out of the dollar (where it had been parked for safety throughout much of the crisis) and back to domestic economies.
Still, as we’ve discussed, the Bank of Japan’s QE program still plays an important role in the stability of global interest rates. If they were to telegraph the winding down of QE (too early), it would accelerate the pace of the move in our 10-year yield. Don’t expect that to happen.
Yields continue to grind higher toward 3%. That has put some pressure on stocks, despite what continues to be a phenomenal earnings season. This creates another dip to buy.
Yesterday, we talked about a reason that people feel less good about stocks, with yields heading toward 3%. [Concern #1] It conjures up memories of the “taper tantrum” of 2013-2014. Yields soared, and stocks had a series of slides.
My rebuttal: The domestic and global economies are fundamentally stronger and much more stable. But maybe most importantly, the economy (still) isn’t left to stand on its own two feet, to survive (or die) in a normalizing interest rate environment. We have fiscal stimulus doing a lot of heavy lifting.
Let’s look at a couple of other reasons people are concerned about stocks as yields climb:
[Concern #2] Maybe this is the beginning of a sharp run higher in market interest rates — like 3% quickly becomes 4%?
My Rebuttal: Very unlikely given the global inflation picture, but more unlikely with the Bank of Japan still buying up global assets in unlimited amounts (Treasuries among them, through a variety of instruments). They can/and are controlling the pace, for the benefit of stimulating their own economy and for the benefit of stimulating and maintaining stability in, the global economy.
[Concern #3] I hear the chatter about how a 3% 10-year note suddenly creates a high appetite for Treasuries over stocks at this point, especially from a risk-reward perspective (i.e. people are selling stocks in favor of capturing that scrumptious 3% yield).
My Rebuttal: In this post-crisis environment, a rise toward 3% promotes the exact opposite behavior. If you are willing to lend for 10-years locked in at a paltry rate, you are forgoing what is almost certainly going to be a higher rate decade than the past decade. If you need to exit, you’re going to find the price of your bonds (very likely) dramatically lower down the road. Coming out of a zero-interest rate world, bond prices are going lower/not higher.
Remember this chart …
The bond market has become a high risk-low reward investment. Meanwhile, with earnings set to grow more than 20% this year, and stock prices already down 7% from the highs of the year, we have a P/E on stocks that continues to slide lower and lower, making stocks cheaper and cheaper. That makes stocks a far superior risk/reward investment, relative to bonds – especially with the prospects of the first big bounce back in economic growth we’ve seen since the Great Recession.
As we’ve discussed, the proxy on the “tech dominance” trade is Amazon. That’s the proxy on the stock market too. And it’s not going well. The President hammered Amazon again over the weekend, and again this morning.
Here’s what he said …
Remember, we had this beautiful heads-up on March 13, with the reversal signal in Amazon.
That signal we discussed in my March 13 note has now predicted this 15.8% decline in the fourth largest publicly traded company. And it’s dictating the continued correction in the broader market.
If you’re a loyal reader of this daily note, you’ll know we’ve been discussing this theme for the better part of the last year. The regulatory screws are tightening. And the tech giants, which have been priced as if they are, or would become, perfect monopolies, are now in the early stages of repricing for a world that might have more rules to follow, hurdles to overcome and a resurrection of the competition they’ve nearly destroyed.
As we know, Uber has run into bans in key markets. We’ve had the repeal of “net neutrality” which may ultimate lead big platforms like Google, Twitter, Facebook and Uber, to transparency of their practices and accountability for the actions of its users. Trump is going after Amazon, as a monopoly and harmful to the economy. Tesla, a money burning company, is being scrutinized for its inability to mass produce — to deliver on promises. For Tesla, if sentiment turns and people become unwilling to continue plowing money into a company that’s lost $6 billion over the past five years (while contributing to the $18 billion wealth of its CEO), it’s game over.
With that said, this all creates the prospects for a big bounce back in those industries that have been damaged by tech “disruption.” And this should make a stock market recovery much more broad-based than we’ve seen.
With the sharp decline in stocks today, we’ve retested and broken the 200-day moving average in the S&P 500. And we close, sitting on this huge trendline that describes the rise in stocks from the oil-crash induced lows of 2016.
Today we neared the lows of the sharp February decline. I suspect we’ll bottom out near here and begin the recovery. And that recovery should be fueled by very good Q1 earnings and a good growth number — brought to us by the big tax cuts.
The sharp swings continue in stocks, with the bias toward the downside. And as we’ve discussed over the past two weeks, it’s all led by the tech giants. Remember, on Friday we looked at the most important chart in the stock market: the chart of Amazon (as a proxy on the tech giants). Early this afternoon, Amazon was outpacing the S&P 500 to the downside by 4-to-1, and finally the broader market cracked to follow it.
This all continues to look like the market is beginning to price in a world where the tech giants, that have taken dangerously significant market share over the past decade, are on the path of tighter regulation and a leveling of the playing field, which will result in higher costs of doing business. That will change their position of strength and open the door to a resurrection of the competition.
Remember, on the stock slide of this past Friday, the S&P 500 hit the 200-day moving average and bounced sharply. It now looks like we’ll get another test of it, probably a break, and maybe take another peak at the February lows.
Here’s a look at the chart ….
You can see in the chart above the technical significance of these levels. This represents the trend from the oil price induced lows of 2016. And the slope of this trend incorporates the optimism from the Trump election and the outlook on pro-growth policies.
With that significance at play, a breach of this support, at least for a short time, would all play into the scenario that we’ll see more swings in stocks (pain for the bulls) until we get to earnings season, which kicks into gear on April 13. And as we discussed, that should begin the data-driven catalyst for stocks (earnings and growth, fueled by fiscal stimulus).
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Stocks were down big today. The media will have fun touting the Dow’s 700-point loss. But while 700 points has good shock value, on a Dow at 24,000, it’s not what it used to be.
Still, as we’ve discussed, the media and Wall Street are programmed to fit a story to the price. And there are no shortages of potential risks to point to when stocks fall. We have trade posturing in Washington. We have a Fed that’s in a tough position, trying to balance a bullish view on growth with the perception that rising rates could choke off that growth. And we have more regulatory scrutiny growing against the tech giants — with Facebook being the latest in the hot seat.
All of that sounds like bad news. But we also have corporate earnings on pace to grow at nearly 20% this year. And that could be an undershoot, given the inability of Wall Street to calibrate the effects of tax cuts on demand. And we have a big trillion-dollar plus infrastructure plan coming down the pike too. This is all as consumers are in as healthy a position as we’ve seen in more than a decade.
But what about a trade war? Doesn’t that threaten the earnings and growth outlook. Not more than nuclear war. And that was, in the public perception, probably as much of a risk last year, as a trade war is now. Stocks went up 20% last year.
Most importantly, we’ve discussed the merits of fighting China’s currency manipulation. If we don’t, we (and the rest of the world) are destined to repeat the cycles of credit booms and busts, with a persistent wealth drain along the way.
It has to be done. And it’s best done when there is leverage. And there is leverage now, as our economic recovery has the chance to lift the global economy out of the rut of the post-crisis stagnation (i.e. everyone needs our fiscal stimulus-driven recovery to work, including China).
Now, as we’ve discussed for quite some time: Markets will correct, as they have. And corrections are a gift to buy stocks on sale. But we won’t likely see a resumption of the long-term trend higher in stocks (and likely new highs by year end) until we start seeing hard evidence that fiscal stimulus is working. And we’ll see that in earnings and growth data, much of which is still a month out.
With all of this said, we pointed last week to the signals that predicted this latest down-leg. It was the big technical reversal signals across the tech heavyweights: Amazon, Apple and Microsoft. Those three stocks led the bounce from the February lows. And those three stocks have predicted this slide and maybe retest back toward the February lows.
What may be the real casualty left from this correction in stocks, when it’s all said and done? It may be those tech giants. As we’ve discussed, the heyday of crushing competition with the advantage of little-to-no regulation, are probably coming to an end. That will change the way these companies (Facebook, Amazon, Google, Uber, Airbnb, etc) operate.
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We talked yesterday about the important inflation data. That was in line this morning. And with that, the big 3% level on the benchmark 10-year government bond yield remains well preserved.
But stocks soured anyway on the day, and it was led by the Nasdaq.
Let’s take a closer look at the Nasdaq.
This is where the big tech giants, Apple, Microsoft and Amazon have led the charge back in the index back to new record highs over the past couple of days. Those three stocks represent about a third of the index (and contribute heavily to the S&P 500 too).
But as the three tech giants led the way up, they cracked today, and we now have some very compelling signals that another down leg for stocks may be here.
First, as the broader financial markets are still licking the wounds of the sharp correction, and still jittery, Apple hit a record high valuation of $925 billion this week (sniffing near the trillion dollar valuation mark). And then it did this today…
As you can see in this chart above, Apple put in a huge bearish reversal signal (an outside day).
So did Microsoft (a huge bearish reversal signal).
So did Amazon, after breaching record levels of $1600 over the past two days …
And, not surprisingly, same is said for the Nasdaq – a big reversal signal…
The S&P 500 had the same reversal pattern.
For perspective, if we avoided the distraction of the big cap weighted indices, the Dow chart tells us the downtrend in stocks from the late January highs remains well intact.
As we discussed yesterday, stocks have fully recovered the decline that people were attributing to Trump’s trade barrier announcement last week.
With that, the tariff hysteria seems to have subsided a bit, as they struggle for evidence to support their hyperbole. Perhaps people may start acknowledging that we are now in a higher volatility environment, and that we will be slowly working out of this recent price correction until corporate earnings and economic growth data start confirming the benefits of tax cuts.
Interestingly, they seem to hate the trade threat, far more than the love the tax incentives and the pro-growth initiatives. And while trade is a complicated issue, everyone seems to suddenly have an expert opinion on it. And everyone is an expert on the Smoot-Hawley Act (which, by the way was a tariff on over 20,000 goods) and depression-era economics.
If they indeed were reflective about the economy, I think they would agree that we (and the world) desperately need growth initiatives to save us from terminal central bank life support (which wouldn’t be so terminal given they have fired all of their bullets to keep us afloat as long as they did). And they would know that we are in for a perpetual cycle of booms and busts (repeat of the credit bubble and burst) if the trade imbalances (mainly between China overproducing and the U.S. overconsuming) ultimately are not corrected.
Now, as more of the conversation on trade turns more toward China, I want to revisit an excerpt from my note in December of 2016 (when Trump was President-elect):
MONDAY, DECEMBER 19, 2016 — “While many think Trump will provoke a military conflict, that’s far from a certainty. With the credibility to act, however, Trump’s tough talk on China creates leverage. And from that leverage, there may be a path to a mutually beneficial agreement, where the U.S. can win in trade with China, and China can win. But it may get uglier before it gets better. In the end, growth solves a lot of problems. A hotter growing U.S. economy (driven by reform and fiscal stimulus), will ultimately drive much better growth in the global economy. And China has a lot to gain from both. Though in a fair-trade environment, they won’t get as much of the pie as they’ve gotten over the past two decades. But it has the chance of leading to a more balanced and sustainable economy in China, which would also be a win for everyone.”
Now, why not just focus on China now? Because they will continue to abuse other countries. And those open trade channels will still allow that product to enter the U.S. As we discussed yesterday, the global economy has been damaged by China’s currency/trade policy, yet the rest of the world has been relying on the U.S. to lead the fight. They need to join the fight to create the leverage to make it ultimately work – so that the global economy can find a sustainable path of recovery and robust growth.
Stocks continue to swing around, and in wider ranges than we’ve seen in a while. We should expect this type of action following a sharp technical correction–a correction that shook many of the players out of the market, that were contributors to suppressing volatility in recent years (the short vol ETFs among them).
Now, as I’ve said in the past, people always search for a story to fit the price. Despite the fact that stocks have been swinging around, with little or no story for them to attribute, they were quick to pounce on Trump’s announcement about steel tariffs, and have since blamed every down tick in the stock market for it. And they’ve run wild with trade war scenarios. For those trying to capitalize on that fear scenario, it shows how uninformed, naive or intellectually dishonest they are (most the latter). They like to evaluate it as if there is no context or history.
Where have they all been the past 20-plus years?
China has been manipulating the global markets through their cheap currency policy for the better part of the past 25 years. In pinning down their currency, they cornered the world’s export market. And in the process, they emerged as the second largest economy in the world. They also accumulated the world’s largest reserve of foreign currencies, which they plowed into global credit markets (mainly our Treasurys) to fuel cheap credit, which ultimately led to the global credit bubble and bust (the global financial crisis). We buy their cheap stuff. They take our dollars and buy Treasurys, supplying more credit to us to buy more of their cheap stuff. And so the cycle goes.
Currencies are the natural balancing mechanism to prevent this bubble/global imbalance from forming. When freely traded in an open economy, the market demand for yuan, given the aggressive growth in the economy, would have driven the value of China’s currency higher, making its exports less attractive, and therefore slowing their breakneck growth and wealth accumulation in China, and its ability to fuel global credit. But of course, the government determines the value of the yuan, and keeping the currency cheap is part of the economic model in China (still).
For those that fear retaliation (a historic response to protectionism), this is retaliation… for 20 years of wealth transfer.
The tariff threats address metals, but the currency is a key tool that makes it all happen. For those that like to play it as a political football, Trump is not the architect of the plan. A staunch democratic Senator from New York, Charles Schumer, led the push in Congress for a bill in 2005 to impose a 35% tariff on China. That’s what ultimately led to the agreement by the Chinese to allow their currency to weaken (somewhat). With that, I want to revisit my note from late September 2016 (prior to the elections) for a little more backstory on Why Trump Is Right About China (read more here).
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