Why the sharp reversal?  And why isn’t Brexit a big shock risk?

We had seen a similar movie before: Grexit.  Greece’s EU and EMU partners talked tough about a “my way or the highway” bailout plan, which included harsh austerity. But when push came to shove, the Greek’s stood their ground, resisted the harsh austerity measures that came with the bailout, and it quickly became clear that Europe had more to lose, than did Greece, by the Greeks leaving the EU and (most importantly) leaving the euro. The Greek’s had negotiating leverage.  And they got concessions.
In the case of Brexit, the EU partners started with tough talk too, promising a dark and ugly future for the UK.  But the EU had/has plenty of risk (i.e. others following the lead of Britain … ex. Italy, Spain).  Clearly they both need each other to thrive.  The UK loses if the EU implodes.  The EU loses if the UK implodes.

The populist movement that gave us Grexit, gave us Brexit and then the Trump election, and recently a new government in Italy with an “Italy first” agenda.  It’s a movement of reform.  And reform is now becoming the norm, not the extreme. We’re hoping to see reform in China now too.

The Fed likes to talk about their assessment of inflation, excluding the effects of volatile oil prices. But they have a record of acting on monetary policy when oil is moving, especially in this post-crisis environment where deflation has been a persistent threat throughout.  They acted in 2016.  And they’ve acted in 2019.

Why?  They have the tools to deal with inflation.  They raise rates.  But the tools are limited to deal with deflation.  They cut rates.  But when rates hit zero, they have to get creative (like QE, negative rates, etc.).  And the consequences of losing the deflation battle are big.  When people hold onto their money thinking things will be cheaper tomorrow than they are today, that mindset can bring the economy to a dead halt. It’s a formula that can become irreversible.

So, we can see why the Fed has been pro-active in response to falling oil prices, falling stocks and falling inflation.  It can all lead to falling confidence.  And that can put them in the position of fighting the dangerous spiral of deflation.

That said, oil is on the rebound.  And as we discussed last month (here), with the quieting of controversy surrounding the Saudi government, it looks like a V-shaped recovery could be in store for oil prices (as we’ve seen with stocks).

Join me here to get my curated portfolio of 20 stocks that I think can do multiples of what broader stocks do, coming out of this market correction environment.

As we ended last week, we talked about the important signals given from Chinese markets on the prospects of a U.S./China trade deal.

Chinese stocks and the Chinese currency have been signaling China is prepared to make the necessary concessions to get a deal done.

We opened the week with more positive news on that front.  That has driven the S&P 500 back above the December 3rd highs (just before the market collapsed 20% in 15 days).

So we’ve now had a full recovery of the December losses.  But we remain 5% off of the all-time highs.  Where do we go from here?

Let’s take a look at the breadth of participation in this recovery for stocks, for clues. As we know, by design, the big market cap stocks contribute significantly to the performance of the S&P 500 (a cap weighted index).  With that, in recent years, we’ve had booms in the tech giants that have masked weakness across broader stocks.  It has been a market of some winners, and many losers.

That dynamic is changing.  As of Friday’s close, if we looked at the equal-weighted S&P 500 index, it was up 14%.  That’s a straight average performance of every constituent stock in the index.  That compares to plus 11% for the cap-weighted index.  This is the benchmark index we always hear about — deemed to be the proxy on global economic health and stability.

So what does the outperformance in the equal weighted index tell us?

It tells us that finally there is broad-based participation in the stock market.  And I would argue, it’s telegraphing a real-broad based economic boom, supplanting the “winner takes all (gutting of industries) boom” we’ve seen over the past decade (i.e. the rise of the big tech “disrupters” thanks to regulatory negligence).

A more broadly followed breadth indicator, the advance-decline line, shows the number of stocks advancing versus those declining.  And that indicator is hitting record highs.  This indicates a healthy stock market, not a topping stock market.