Over the past two Friday’s we’ve stepped events and conditions that have built the case that that “all-clear” signal has been given for stocks.
We are 91% through S&P 500 earnings for Q1 and the positive surprises have continued to roll in, on both earnings growth and revenue growth. Q1 GDP growth had a positive surprise, to reflect an economy that is running very close to 3% over the past three quarters. The important FAANG stocks all beat on earnings and beat on revenues for Q1. And the big jobs report last Friday did NOT come with a hot wage growth number, which keeps the inflation outlook tame.
Now we have very compelling technical confirmation that a resumption of the big secular bull trend for stocks is resuming. This correction has given everyone a long time to get on board. But it looks like the train is leaving the station.
Here’s a look at the S&P 500 ….
This bull trend in stocks from the oil-price crash induced lows of 2016 remains intact. The trendline tested and held three times in this recent correction, as did the 200-day moving average. And yesterday we had a big break of this trendline that represents this correction of the past three months. This has been textbook technical confirmation of a price correction within a strong bull trend.
Here’s the Dow chart we looked at on Wednesday …
And here’s the latest as we end the week, as the momentum from that trend break continues …
U.S. stocks are being valued right at the long-term P/E, at about 16 times forward earnings. Stocks in the UK, Germany and Japan are all trading closer to 13 times forward earnings. That’s cheap relative to long-term averages, and especially cheap (including U.S. stocks), in ultra-low interest rate environments. For perspective, Japanese stocks are recovering back toward the highest levels in more than 25 years, yet the forward P/E on Japanese stocks is closer to the lowest levels over the period. Stocks are cheap, and this correction has been a gift to get all of the onlookers on board.
With oil above $70, today I want to revisit my note from February where we looked at billionaire-owned energy stocks that have the potential to double on higher oil prices (that note is below with updates or you can see it published here).
As I wrote that note, crude oil was trading at $63. This morning it traded close to $72. And more importantly, with the supply disruption (in the renewed Iran sanctions) combined with an already undersupplied market, we now have the recipe for a melt-UP in oil prices. That creates big opportunities in oil exploration, production and services companies (still).
FRIDAY, FEBRUARY 23, 2018
We’ve talked quite a bit over the past year about this $100 oil thesis from the research-driven commodities investors Goehring and Rozencwajg.
As they said in their recent letter, “we remain firmly convinced that oil-related investments will offer phenomenal investment returns. It’s the buying opportunity of a lifetime.”
With that, let’s take a look at some favorite energy stocks of the most informed and influential billionaire investors:
David Einhorn of Greenlight Capital has about 5% of his fund in Consol Energy (CNX). Mason Hawkins of Southeastern Asset Management is also in CNX. He has 9% of his fund in the stock, his third largest position. The last time oil was $100, CNX was a $36 stock. That’s more than a double from current levels. [Update: this is still a potential double, last price in CNX is $15.70.]
Carl Icahn’s biggest position is in energy. He has 12% of his fund in CVR Energy (CVI), which is 82% of the company. The last time oil was $100, CVI was $49. That’s 58% higher than current levels. [Update: last price on CVI is $40.60, driven higher by Icahn’s influence on a favorable EPA ruling.]
Paul Singer of Elliott Management’s third largest position is an oil play: Hess Corp. (HESS). It’s a billion-dollar stake, and the stock was twice as valuable the last time oil prices were $100. [Update: last price on Hess is $63, up significantly from my Feb note, but Hess was a $100+ stock the last time crude oil was traded at $100.]
Andreas Halvorsen of Viking Global Investors has the biggest position in his $16-billion fund in EnCana Corp. (ECA). The stock was around $25 last time oil was $100. It currently trades at $14. [Update: last price on ECA is $17.]
Crude oil crossed the $70 mark today, and with new sanctions to be placed on Iran, likely tomorrow, $100 oil is looking very possible.
We’ve talked a lot about oil prices over the past couple of years. In early 2016, we talked about the price crash that was induced by OPEC as an effort to crush the competitive U.S. shale industry.
While they nearly succeeded, these oil producing countries nearly killed their own economies in the process. So, in effort to drive oil prices higher, to salvage oil revenues, they flipped the switch in late 2016, cutting production for the first time since 2008. And they did so, in a market that was already undersupplied.
In my January 12th note, we revisited Leigh Goehring’s call for $100 oil. Goehring is one of the best research-driven commodities investors. And has been calling for triple-digit oil prices–this year! He predicted a surge in global oil demand (which has happened) and a drawdown on supplies (which has been happening at “the fastest rate ever experienced”). He said that with the OPEC production cuts from November 2016, we’re “traveling down the same road” as 2006, which drove oil prices to $147 a barrel by 2008.
Below is the chart of oil. A break of $70 is putting the price of oil very close to the levels that it collapsed from that Thanksgiving Day evening back in 2014. That was when OPEC announced that it opted NOT to cut production, despite an oversupply and plunging prices.
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’re getting into the heart of Q1 earnings now, with about a quarter of the companies in the S&P 500 now in, and many more reporting this week. And we’ll get the first look at Q1 GDP this Friday.
Remember, as we went through the price correction in stocks, we’ve been waiting for the data to “prove it” to the market that fiscal stimulus and structural reform are indeed fueling a return to trend growth.
On that note, the performance of companies in Q1 have NOT disappointed. As of Friday, 80% of the S&P 500 companies that have reported have beat earnings estimates. And 72% have beat revenue estimates.
Now we have the build up to the big Q1 GDP number at the end of this week. We were already heading into the first quarter, with the economy growing at better than 3% for the second half of 2017. And then the fire was fed with the tax bill.
So what are the expectations going into the GDP report?
The Atlanta Fed attempts to mimic the model used by the BEA on their GDP forecast. They are looking for 2% for Q1 growth. And as you can see in their chart above, the forecasted number has been on a dramatic slide as we’ve seen more and more economic data through the period. More importantly, Reuters has the consensus view of economists at 2%.
The New York Fed’s model is predicting 2.9% growth (closer to that important trend growth level).
As with earnings, a low bar to hop over tends to be very good for stocks. And at a 2% consensus, we’re setting up for a positive surprise on GDP.
As we’ve discussed, despite the move higher in global rates over the past week, and the coming break of the 3% barrier in the 10-year yield, it will be hard to dispute the signal of economic strength and robustness from the combination of a huge earnings season and a positive surprise in GDP. If we get it, that should kick the stock market recovery into another gear.
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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Last week we talked about the big adjustment we should expect to come in the inflation picture. With oil above $60 and looking like much higher prices are coming, and with corporate tax cuts set to fuel the first material growth in wages we’ve seen in a long time (if not three decades), this chart (inflation expectations) should start moving higher…
And with that, market interest rates should finally make a move. As we discussed last week, we will likely have a 10-year yield with a “3” in front of it before long.
Yields have already popped nearly a quarter point since the beginning of the year. But that’s just (finally) reflecting the December Fed rate hike. What hasn’t been reflected in rates, as it has in stocks, is the different growth and wage pressure outlook this year, thanks to the tax cut. Last year, people could argue it wasn’t going to happen. This year, it’s in motion. And the impact is already showing up. We should expect it to show in the inflation data, sooner rather than later.
With that, today we’re knocking on the door of a big breakout in rates (as you can see in the chart below) — which comes in at 2.65%…
As we’ve discussed, the anchor for the benchmark U.S. 10-year yield (and for global rates), even in the face of a more optimistic global economic growth outlook, has been Japan’s unlimited QE (driven by its policy to peg its 10-year at a yield of zero). On that note, last week, the former head of the central bank in India, Raghuram Rajan (a highly respected former central banker), said he thinks both Europe and Japan will exit emergency policies sooner than people think. That’s a positive statement on the global economy and a warning that global rates should finally start moving.
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We’ve talked this week about the potential for hotter demand and hotter economic growth for 2018.
Now, what’s been a big drag on this goal of achieving a hotter economy, has been wage growth. That has been the glaring indicator, throughout the past decade, that the economy has been sluggish and vulnerable – and in need of fiscal stimulus.
Though the data on job additions and unemployment have been strong, workers have had little-to-no leverage in commanding higher wages. We had more evidence of that in this morning’s job report. December wages came in at just a 2.5% annual change.
You can see in the chart above, the weak wage pressures coming out of the depths of the crisis. That’s despite an unemployment rate that has fallen from 10% to 4% – what appears to be a tight job market. In a tight job market, employees should be able to command higher wages. That hasn’t been the case. That’s because the job market has been riddled with underemployment. And underemployment has been driven, by both job seekers and job producers, from low confidence in business conditions and in the economic outlook.
This is where the new tax bill comes in.
The Tax Foundation has said the corporate tax rate cut should double the current annual change in wages. And since the tax bill has been signed, we’ve already seen huge companies cut bonus checks to employees. If it does indeed, finally, create upward pressure in wages, then the inflation picture (which has been dead) becomes a big focus for the year.
The latest inflation reading (the Fed’s favored core PCE) is still well below the Fed’s 2% target. Wage pressures will get inflation moving. And among the biggest beneficiaries in this scenario will be commodities.
Remember, we looked at this chart of broad commodities earlier this week…
And if inflation starts moving this year, this is another chart that has a big move in store (bonds)…
As I said earlier this week, despite the quadrupling of the stock market from the 2009 bottom, money may just be in the early stages of moving out of bonds and cash, and back into stocks.
Global markets have started the year behaving very well, supporting my view that we’re in the early innings of an economic boom, and we should get another big year for global stock markets.
But, as we discussed heading into the end of 2017, that view isn’t shared by Wall Street or the Fed. For 2018, the Fed is looking for just 2.5% growth. And Wall Street is looking for just 6% growth in stocks (according to this WSJ piece). That’s less than the long term average return on the S&P 500.
Both continue to, somehow, ignore (or underestimate) the influence of fiscal stimulus, which is hitting into an already fundamentally improving economy.
Wall Street was looking for 3% growth in stocks last year. We got almost 20% (better in the Dow). And the Fed was looking for 2.1% growth last year. It will be closer to 3% for full year 2017.
They thought Trump couldn’t get policies legislated. Now we have big tax cuts, meaningful deregulation, the beginnings of a government spending program (started by natural disaster aid), and a massive incentive for companies to repatriate trillions of dollars.
If we add that to an economy with near record low unemployment, cheap gas, near record low mortgage rates, record high consumer credit worthiness, record high household net worth, a record high stock market and near record low inflation, it’s hard to imagine the economy can’t do better than the long term average (3% growth) this year.
As we’ve discussed, we’ve yet to experience the explosive bounce in economic growth that is typical of post-recession environments. This is set up to be that kind of year — maybe something north of 4%, which should finally move the needle on inflation. If that’s the case, despite the quadrupling of the stock market from the 2009 bottom, money may just be in the early stages of moving out of bonds and cash, and back into stocks.
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We are off to what will be a very exciting year for markets and the economy.
Over the past two years I’ve written this daily piece, discussing the bigslow-moving themes that drive markets, the catalysts for change, and the probable outcomes. When we step back from all of the day to day noise that has distracted many throughout the time period, the big themes have been clear, and the case for higher stocks has been very clear. That continues to be the case as we head into the New Year.
As I’ve said, I think we’re in the early stages of an economic boom. And I suspect this year, we will feel it — Main Street will feel it, for the first time in a long time.
And I suspect we’ll see a return of “animal spirits.” This is what has been destroyed over the past decade, driven primarily by the fear of indebtedness (which is typical of a debt crisis) and mis-trust of the system. All along the way, throughout the recovery period, and throughout a quadrupling of the stock market off of the bottom, people have continually been waiting for another shoe to drop. The breaking of this emotional mindset has been tough. But with the likelihood of material wage growth coming this year (through a hotter economy and tax cuts), we may finally get it. And that gives way to a return of animal spirits, which haven’t been calibrated in all of the economic and stock market forecasts.
With this in mind, we should expect hotter demand and some hotter inflation this year (to finally indicate that the global economy has a pulse, that demand is hot enough to create some price pressures). With that formula, it’s not surprising that commodities have been on the move, into the year-end and continuing today (as the New Year opens). Oil is above $60. The CRB (broad commodities index) is up 8% over the past two weeks – and a big technical breakout is nearing.
This is where the big opportunities lie in stocks for the New Year. Remember, despite a very hot performance by the stock market last year, the energy sector finished DOWN on the year (-6%). Commodity stocks remain deeply discounted, even before we add the influence of higher commodities prices and hotter global demand. With that, it’s not surprising that the best billionaire investors have been spending time building positions in those areas.
This year is set up to handsomely reward the best stock pickers.
For help building a high potential portfolio, follow me in our Billionaire’s Portfolio, where you look over my shoulder as I follow the world’s best investors into their best stocks. Our portfolio of highest conviction, billionaire-owned stocks is up close to 50% over the past two years. And 25% of our portfolio is in commodities stocks. You can join me here and get positioned for a big 2018.
