Market Is UNDER-Estimating Rate Cut Chances For June

May 31, 5:00 pm EST

We end the month of May today.  Things were going quite well for markets, with stocks sitting on record highs, until Trump did this over the first weekend of the month …

 

 

With the above in mind, let’s look back at my May 6th note: “Why would Trump risk complicating a deal, even more, by threatening China with a deadline/tariff increase? Because he has leverage. He has a stock market near record highs, and a strong economy and the winds of ultra-easy global monetary policy at his back …

So, Trump has a win–win going into the week. If the threat works, he gets a deal done, and likely gives less to get it done. If China backs off, stocks go down, and he gets the Fed’s rate cut he’s been looking for–stocks go back up.”

As we know, China walked.  And Trump is now using a similar position of strength to influence policy with Mexico.  As such, stocks have now fallen nearly 7% from the highs. And the prospects for a Fed rate cut are looking very strong.

How strong?  The interest rate market is pricing in a 90% chance of a rate cut by year end, and a 60% chance of a two rate cuts.  But despite the sharp decline in global interest rates, the market seems to be well underestimating the chances for a Fed rate cut this month — at the June 19 Fed meeting.

There are two clear influences on Fed policy over the past few years.  Stocks and crude oil.  The latter weighs on inflation.  While the Fed claims to ignore the influence of food and energy in their inflation measure, they have a history of acting when oil moves sharply.  And inflation is already running at very soft levels.  On that note, what was the biggest loser for the day, week and month?  Crude oil.  Crude was down 7.5% today, 10% for the week, and 16% for the month.

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Q1 Growth Number Is A Reminder That The Economy Is Good

May 30, 5:00 pm EST

The first revision of Q1 GDP came in this morning, in-line with expectations (at 3.1%).  As yields swoon, and stocks have given back some gains for the month, this growth number today is good reminder that the state of the U.S. economy is good. 

Remember, back in April, the first look at Q1 GDP came in as a huge positive surprise (at 3.2%).   Many were expecting it to be a terrible quarter.  Goldman Sachs thought the quarter would produce just 0.7% growth.  They were wrong, and they weren’t alone.  At the end of the first quarter, the Atlanta Fed’s GDP model was estimating that the economy grew at only 0.3% in Q1.

With that in mind, don’t get too caught up in the souring growth story.  At the moment, the consensus view on Wall Street is for Q2 growth to come in at 1.8%.   And the Atlanta Fed model is looking for 1.3%.  Both are well lower than the White House envisioned 3%+ growth trend.

But, for perspective, there are some clear factors working in favor of the higher (not lower) growth case.

The job market is strong.  We have monthly new jobs running at a 12-month average of 218k.  That’s well above pre-financial crisis average monthly job growth. The unemployment number at 3.6% is the lowest since 1969.

Most importantly:  Wage growth has been on the move for the past 18 months, now sustaining above 3%.  And Q1 productivity came in at 3.6%, the hottest productivity reading in almost a decade.  The economy can grow by expanding the size of the workforce or the productivity of the workforce.  We’re finally getting solid productivity growth.

 

Why ‘China Dumping Treasuries’ Headlines Aren’t Scary

May 16, 5:00 pm EST

There’s a lot of chatter about China offloading of U.S. Treasuries.

China is the largest foreign holder of Treasuries, with a stake of $1.1 trillion.  And the latest report from the U.S. Treasury showed China, as Reuters puts it, selling “the most U.S. Treasuries in nearly two-and-a-half years.”  Sounds scary.

The dark scenario of China dumping our treasuries is not a new one.  It has been talked about for a long time as existential threat.  Surely, an increase in tariffs and a tough negotiating position from the U.S. would set this into motion. Right?

Let’s take a closer look at this threat. 

 

Above is a snapshot of the recent TICs report.  You can see that China has sold over the past twelve months, $67 billion worth of Treasuries.  You can also see that any sign of “systematic selling” was short-lived (five months) last year.  It came to a halt when the sell-off in global stocks elevated the risks to global stability (i.e. when risk rises, they and everyone wants to own Treasuries — the safest parking spot for global capital).

You can also see that, over the past twelve months, the other biggest holder of U.S. Treasuries, Japan, was a net buyer (of $34 billion) – as was most of the rest of the world (to the tune of $250 billion).

The take away:  Even if China were to “dump” Treasuries there are plenty of buyers.  Don’t forget, the Bank of Japan is printing yen to buy assets (domestic and global). They could buy unlimited Treasuries.  The Fed can buy more Treasuries (they already own $2 trillion worth).

As we’ve discussed, China’s tool to fight tariffs isn’t the U.S. Treasury market, it’s their currency.  And devaluing the yuan increases the value of their dollar-based Treasury holdings (in yuan terms).  But any big one-off devaluation of the yuan would likely get China’s other global trading partners more visibly into the fight.

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Stocks, A Buy On This Dip

May 14, 5:00 pm EST

Yesterday we looked at the big technical support level for the Dow — the 200-day moving average.

That level held beautifully, and stocks bounced aggressively today.

Here’s a look at that chart now ….

 

With stocks bouncing after a quick 5% correction, we also have a big technical area of support holding in the interest rate market.  As you can see in this next chart, the 10-year yield is holding this big trendline into 2.40%.

So, we have a stronger dollar today, strong commodities prices, higher global stocks and higher rates.  What’s different today, relative to yesterday?  Nothing.

We have a market underpinned by better than expected economic data and earnings. And (different than December) we have a Fed that is in a relatively accommodative stand, promising to do nothing to disrupt the trajectory of the economy and stock market.  That makes stocks a buy on dips.
Big 200-Day Moving Average In Stocks … A Buy, Not A Sell

May 13, 5:00 pm EST

As we discussed last week, the Chinese government will use the yuan to counterpunch tariffs.

They’ve now weakened the yuan by 3% since last month.

If China were to move the currency back to it’s pre-managed float levels (i.e. the peg, which stood at 8.27 against the dollar from the late 90s through 2005), that would be about a 20% devaluation in the yuan (to offset a 25% tariff).

.

 

That’s unlikely.  It would set off a response from more of the trading partner universe (which has been quiet, and happy to let the U.S. do the fighting for them).  Will the Chinese government move it back above 7 (maybe mid 7s) yuan to the dollar? Likely.

And with that dynamic at work, and an outlook of a worsening economy, the Chinese people will use any means possible to get money out of China.

Remember, China forbids it’s citizens to move more than $50,000 out of the country per year.  The rich have gotten around that in the past through buying expensive foreign real estate, creative foreign investments, invoice schemes, even forcing employees to transfer money for them to foreign bank accounts.  But in 2017, China cracked down on the capital flow exodus.  And as we discussed last week, the Chinese then discovered Bitcoin.  The value skyrocketed from $1k to over $19k.  China cryptocurrency exchanges were said to account for 90% of global bitcoin trading.

But in late 2017, the Chinese government cracked down on Bitcoin — banning cryptocurrency exhanges. That set off the crash, from $19k to $3k.

Owning and buying Bitcoin in China is not banned – though it is more difficult now.  But we may now be seeing the effect of the Bitcoin futures market and off-exchange (peer-to-peer) trading as liquidity sources for Chinese citizens to respond to potential devaluation in the yuan.  Bitcoin is on the move, big-time — up 25% since Friday afternoon!

Here’s a look at that chart today …

What about stocks?  Stocks have now fallen over 5% from the highs.  That’s leaves the S&P 500 still up 13% year-to-date.  The Dow is up 9%.  Importantly, today we ran into a big technical level on the Dow– the 200-day moving average.  That level marks a 5.5% decline from the highs of the year in the Dow.  This is a level to buy, not sell. 
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Don’t Take The Bait On The Uber IPO

May 10, 5:00 pm EST

We end the week with continued stalemate on a trade deal.  Given that trade talks will continue (despite the tariff escalation), it’s not considered a “no deal.”  That’s a relative positive for markets.

As we discussed, as long as Trump will keep the door open, the Chinese will keep talking, and will (in the meantime) protect their exports by weakening the currency.  The yuan is now trading at its weakest level since early January, when trade talks were re-opened after a month long stalemate.

Now, let’s talk about the Uber IPO today …

It didn’t go well for Silicon Valley.  Uber started trading publicly below the range they expected, and instead of getting a huge opening day “lyft”, it traded down on the day.

We’ve talked quite a bit about the IPOs coming from the Silicon Valley hype machine.  Lyft got it all started, and here’s what that chart looks like now…

 

With this above chart in mind and the performance of Uber today, let’s revisit an excerpt from my note from last month …

Pro Perspectives – April 16, 2019

“Lyft and Uber, dumping shares on the public at a combined $140 billion plus valuation, may mark the end to the Silicon Valley boom cycle.

As we know, Lyft was valued as high as $25 billion when it started trading publicly.  Some paid a $25 billion valuation for the privilege of owning a company that did a little over $2 billion in revenue, while losing almost a billion dollars — with slowing revenue growth and widening losses. It has now shed about $9 billion in market cap in thirteen days.

Uber is on deck.  Uber filed its S-1 this week.  In this public disclosure document, we find a company that has privately raised $24 billion, valued at $68 billion in the private market, that has been thought to float shares at as much as $120 billion valuation.  This is a company that (like Lyft) also with slowing revenue growth and widening losses.  Losses?  The S-1 shows a swing from $ 4 billion loss in 2017, to a near $1 billion profit in 2018.  But if we back out the a couple of unusual items (like the gain of a divestiture of some foreign businesses and an unrealized gain in an “investment”) the company lost $4.2 billion on $11 billion in revenue.

As we discussed last month, the hyper-growth valuations on these perceived hyper-growth companies, are unlikely to get hyper-growth at this stage.  That will be a problem for those taking the bait on the IPO.”

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Why Bitcoin Has Been All About Chinese Capital Flight

May 9, 5:00 pm EST

Yesterday we talked about the tool China will use to offset tariffs, if a deal does not materialize and the tariff penalty increases.

They will devalue their currency.

With a “no deal” potential outcome, there’s a lot of wealth in China looking for ways out.

In recent years, they have found a way out through Bitcoin.  And, no coincidence, Bitcoin is again on the move.

With that, let’s take a look at the timeline on Bitcoin…

The 2016-2017 ascent of Bitcoin coincided perfectly with the crackdown on capital flight in China.  In late 2016, with rapid expansion of credit in China, growing non-performing loans, a soft economy and the prospects of a Trump administration that could put pressure on China trade, capital was moving aggressively out of China.

That’s when the government stepped UP capital controls — restricting movement of capital out of China, from transfers to foreign investment.

Of course, resourceful Chinese still found ways to move money.  Among them, buying Bitcoin. And that’s when Bitcoin started to really move (from sub-$1,000 to over $19,000). China cryptocurrency exchanges were said to account for 90% of global bitcoin trading.

Chinese capital flows were confused for Silicon Valley genius.

But in late 2017, China cracked down on Bitcoin – with a total ban.  A few months later, Bitcoin futures launched, which gave hedge funds a liquid way to short the madness. Bitcoin topped the day the futures contract launched.

So, as Chinese officials visit the White House for a deal or no deal on trade, China has been moving their currency lower — and bitcoin has (again) been moving higher.  Perhaps the Chinese are finding new ways to buy Bitcoin.

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Watch The Yuan As A Proxy On A Trade Deal

May 8, 5:00 pm EST

We talked about China’s currency yesterday, as the key proxy on a U.S./China trade deal.

Let’s revisit some background and context on the whole trade negotiation.
China’s currency manipulation (i.e. weak currency policy) is at the core of the global trade imbalances that precipitated the global financial crisis.  With that, the currency is a key piece of the trade and structural reform demands from the Trump administration.

After using its currency to corner the world’s export markets for more than a decade, which led to China’s rise to a global economic power, you can see how China has been maneuvering to pacify currency tensions over the last decade:

 
(In the chart above, the falling line represents a strengthening yuan versus the U.S. dollar, and vice versa)
1) They slowly allowed the currency to climb (against the dollar) following threats of a big tariff on China from Graham and Schumer (yes, Schumer) back in 2005.
2) When the global economic crisis hit, they went back to a peg to protect their ability to export.
3) They went back to a slow crawl higher as tensions rose, and people began to believe the developed market economies might be passing the torch to China for economic leadership.
4) It became clear that China can’t grow fast enough in a world where developed market economies are struggling. So, they went back to weakening the currency to protect their ability to export.
5) They strengthened the yuan when Trump was elected to try to ward off a trade war.
6) Trump wasn’t placated and tariffs were launched. They weakened the currency with the idea that a threat of a big one-off devaluation in the currency might create some leverage.
7)  After trying to hold-out, it seemed clear earlier this year that they needed to get a deal done, as the economy continued to sink.  They walked the currency higher again – a signal that they are willing to make aggressive concessions to get a deal done.
But now, with a hard deadline and threat of a tariff escalation, the Chinese made one of the largest devaluations in the yuan in years (a warning shot).
Here’s a look at the chart going into the deadline …
If we get a no deal/ tariff escalation on Friday, we can expect the Chinese to continue weakening the yuan to offset some of the tariff burden.
So, tariffs have been a tool of retaliation for the U.S., to counter nearly three decades of currency manipulation by the Chinese.  If we don’t get reform, the Chinese will retaliate with … more currency manipulation.

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What China Has To Lose On A ‘No Deal’

May 7, 5:00 pm EST

As we get closer to the hard deadline on a U.S./China trade deal, markets are adjusting for the potential of a no deal/ tariff escalation.

What does that look like?  U.S. stocks are now off 2% from the highs of the year.  That still puts us up 15% year-to-date.

The bigger adjustment is coming in China.  As we discussed yesterday, China is in the position of weakness in these negotiations.  The U.S. economy is strong.  China’s economy has been very weak.  A more expensive and indefinite trade dispute puts downward pressure on both economies (and the global economy), but it puts the Chinese in dangerously slow economy — which becomes politically dangerous for the Chinese Communist Party.

As such, here’s what Chinese stocks have done in the past eight days …

 

And, perhaps as a warning shot, China is starting to move their currency.

As we’ve discussed, China has used their currency (a weak currency) as the primary tool to achieve their extraordinary economic ascent over the past two decades — cornering the world’s export market.

We should expect, when their backs are against the wall, with a dim economic outlook, they will go back to weakening the yuan.  That’s what they have been doing since Trump’s tariff threat on Sunday.  They adjusted down the yuan yesterday by almost 1%.  That doesn’t sound like much, within China’s currency regime, it’s a big move.  We saw a one-off move like that once last year.  The other time was August of 2015, which led to fears that China might devalue the yuan. That set off a global market rout.

With the above said, China is sending Hui for the meetings that are scheduled to run Thursday and Friday.  Hui has been the point-man on trade negotiations.  His presence, in light of the tariff threats, give some encouragement that China has intentions to get a deal done.

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Trump’s Win-Win Bet

May 6, 5:00 pm EST

Late last week, the White House floated the idea that a trade agreement with China could come by this coming Friday (May 10).

And then Trump did this yesterday …

 

Why would Trump risk complicating a deal, even more, by threatening China with a deadline/ tariff increase?  Because he has leverage.  He has a stock market near record highs, and a strong economy and the winds of ultra-easy global monetary policy at his back.

China, on the other hand, has an economy running in recession-like territory, with key data just (recently) bouncing from global financial crisis era levels.  And Chinese stocks, after soaring 34% since January 4th, have given back 12% from the highs, in just seven days.  And they’ve just fired a ton of fiscal and monetary policy bullets to stimulate the economy – which could be diluted by a more expensive and indefinite trade war.

So, Trump has a win-win going into the week.  If the threat works, he gets a deal done, and likely gives less to get it done.  If China backs off, stocks go down, and he gets the Fed’s rate cut he’s been looking for – stocks go back up.

If you haven’t signed up for my Billionaire’s Portfolio, don’t delay … we’ve just had another big exit in our portfolio, and we’ve replaced it with the favorite stock of the most revered investor in corporate America — it’s a stock with double potential.

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