Yesterday we looked at the charts on oil and the U.S. 10 year yield. Both were looking poised to breakout of a technical downtrend. And both did so today.
Here’s an updated look at oil today.
And here’s a look at yields.
We talked yesterday about the improving prospects that we will get some policy execution on the Trumponomics front (i.e. fiscal stimulus), which would lift the economy and start driving some wage pressure and ultimately inflation (something unlimited global QE has been unable to do).
No surprise, the two most disconnected markets in recent months (oil and interest rates) have been the early movers in recent days, making up ground on the divergence that has developed with other asset classes.
Now, oil will be the big one to watch. Yields have a lot to do, right now, with where oil goes.
Though the central banks like to say they look at inflation excluding food and energy, they’re behavior doesn’t support it. Oil does indeed play a big role in the inflation outlook – because it plays a huge role in financial stability, the credit markets and the health of the banking system. Remember, in the oil price bust last year the Fed had to reverse course on its tightening plan and other major central banks coordinated to come to the rescue with easing measures to fend off the threat of cheap oil (which was quickly creating risk of another financial crisis as an entire shale industry was lining up for defaults, as were oil producing countries with heavy oil dependencies).
So, if oil can sustain above the $50 level, watch for the inflation chatter to begin picking up. And the rate hike chatter to begin picking up (not just with the Fed, but with the BOE and ECB). Higher oil prices will only increase this divergence in the chart below, making the interest rate market a strong candidate for a big move.
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After a week away, I return to markets that look very similar to where we left off 10 days ago. Stocks lower. Yields lower. The dollar lower. But commodities higher!
Now, this takes into account, another week of political volatility in Washington. It takes into account another week of uncertainty surrounding North Korea.
What’s important here, is distinguishing between a price correction and a real thematic change. If we’re not making new record highs in stocks every day, and stocks actually retrace 5% or so, does that represent the derailing of the slow but steady economic recovery and, as important, the dismissal of potential policy fuel that could finally lift us out of the post-crisis stall speed growth regime?
The narrative in the media would have you believe the answer is yes.
But the reality is, the economic recovery is stable and continuing. The policy stimulus has been a tough road, but continues to offer positive influence on the economy. And there are strong technical reasons to believe we’re seeing the early stages of a price driven correction in stocks.
Remember, we looked at the big technical reversal signal (the “outside day”) back on August 8th. That was the technical signal, and it was about as good a signal as it gets. The Dow had been plowing to new highs for eleven consecutive days — culminating in another new record high before. And the last good ‘outside day’ in the S&P 500 was into the rally that stalled December 2, 2015 and it resulted in a 14% correction.
Here’s another look at that chart, plus the first significant trend line that we discussed in my last note, August 11th.
I thought this line would give way, which it has today, and that we would see a real retracement, which should be a gift to buy stocks. If you’re not a highly leveraged hedge fund, a 5%-10% retracement in broader stocks is a gift to buy. Remember, the slope of the S&P 500 index over time is UP.
Prior to the reversal signal in stocks, we had already addressed the influence of the FAANG stocks. And I suggested the miss in Amazon earnings was a good enough excuse to cue the profit taking in what had been a very lucrative trade in the institutional investment community. Amazon is now down 12% from the highs of just 18 days ago.
What should give you confidence that the economic outlook isn’t souring? Commodities!
The base metals, as we’ve discussed in recent weeks, continue to move higher and continue to look like early stages of a bull market cycle — which would support the idea that the global economic recovery is not only on track, but maybe better than the consensus market view (which seems to be still unconvinced that better times are ahead).
The leader of the commodities run is copper. We looked at this chart in my last note (Aug 11). I said, “this big six-year trend line in copper (below) will be one to watch closely. If it breaks, it should lead the commodities trend higher.”
Here’s an updated chart of Copper. This trend line was broken today.
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James Bullard, the President of the St. Louis Fed, said today that even if unemployment went to 3% it would have little impact on the current low inflationevironment. That’s quite a statement. And with that, he argued no need to do anything with rates at this stage.And he said the low growth environment seems to be well intact too — even though we well exceeded the target the Fed put on employment years ago. In the Bernanke Fed, they slapped a target on unemployment at 6.5% back in 2012, which, if reached, they said they would start removing accomodation, including raising rates. The assumption was that the recovery in jobs to that point would stoke inflation to the point it would warrant normalization policy. Yet, here we are in the mid 4%s on unemployment and the Fed’s favored inflation guage has not only fallen short of their 2% target, its trending the other way (lower).
As I’ve said before, what gets little attention in this “lack of inflation” confoundment, is the impact of the internet. With the internet has come transparency, low barriers-to-entry into businesses (and therefore increased competition), and reduced overhead. And with that, I’ve always thought the Internet to be massively deflationary. When you can stand in a store and make a salesman compete on best price anywhere in the country–if not world–prices go down.
And this Internet 2.0 phase has been all about attacking industries that have been built upon overcharging and underdelivering to consumers. The power is shifting to the consumer and it’s resulting in cheaper stuff and cheaper services. And we’re just in the early stages of the proliferation of consumer to consumer (C2C) business — where neighbors are selling products and services to other neighbors, swapping or just giving things away. It all extracts demand from the mainstream business and forces them to compete on price and improve service. So we get lower inflation. But maybe the most misunderstood piece is how it all impacts GDP. Is it all being accounted for, or is it possible that we’re in a world with better growth than the numbers would suggest, yet accompanied by very low inflation?
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As we know, inflation has been soft. Yet the Fed has been moving on rates, assuming that they have room to move away from zero without counteracting the same data that is supposed to be driving their decision to increase rates.
Thus far, after four (quarter point) increases to the Fed funds rate, the moves haven’t resulted in a noticeable tightening of financial conditions. That’s mainly because the interest rate market that most key consumer rates are tied to have remained low. Because inflation has remained low.
A key contributor to low inflation has been low oil prices (though the Fed doesn’t like to admit it) and commodity prices in general that have yet to sustain a recovery from deeply depressed levels (see the chart below).
But that may be changing.
Commodities have been lagging the rest of the “reflation” trade after the value of the index was cut in half from the 2011 highs. Remember, we looked at this divergence between the stocks and commodities last month. Commodities are up 6% since.
Things are picking up. Here’s the makeup of the broadly followed commodities index.
You can see, energy has a heavy weighting. And oil, with another strong day today, looks like a break out back to the $50 level is coming.With today’s inventory data, we’ve now had 12 out of the past 14 weeks that oil has been in a draw (drawing down on supply = bullish for prices). And with that backdrop, the CRB index, after being down as much as 13% this year, bottomed following the optimistic central bank commentary last month, and is looking like it may be in the early stages of a big catch-up trade. And higher oil (and commodity prices in general) will likely translate into higher inflation expectations.
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With some global stock barometers hitting new highs this morning, there is one spot that might benefit the most from this recently coordinated central bank promotion of a higher interest environment to come. It’s Japanese stocks.
First, a little background: Remember, in early 2016, the BOJ shocked markets when it cut its benchmark rate below zero. Counter to their desires, it shook global markets, including Japanese stocks (which they desperately wanted and needed higher). And it sent capital flowing into the yen (somewhat as a flight to safety), driving the value of the yen higher and undoing a lot of the work the BOJ had done through the first three years of its QE program. And that move to negative territory by Japan sent global yields on a mass slide.
By June, $12 trillion worth of global government bond yields were negative. That put borrowers in position to earn money by borrowing (mainly you are paying governments to park money in the “safety” of government bonds).
The move to negative yields, sponsored by Japan (the world’s third largest economy), began souring global sentiment and building in a mindset that a deflationary spiral was coming and may not be leaving, ever—for example, the world was Japan.
And then the second piece of the move by Japan came in September. It was a very important move, but widely under-valued by the media and Wall Street. It was a move that countered the negative rate mistake.
By pegging its ten-year yield at zero, Japan put a floor under global yields and opened itself to the opportunity to doing unlimited QE. They had the license to buy JGBs in unlimited amounts to maintain its zero target, in a scenario where Japan’s ten-year bond yield rises above zero. And that has been the case since the election.
The upward pressure on global interest rates since the election has put Japan in the unlimited QE zone — gobbling up JGBs to push yields back down toward zero — constantly leaning against the tide of upward pressure. That became exacerbated late last month when Draghi tipped that QE had done the job there and implied that a Fed-like normalization was in the future.
So, with the Bank of Japan fighting a tide of upward pressure on yields with unlimited QE, it should serve as a booster rocket for Japanese stocks, which still sit below the 2015 highs, and are about half of all-time record highs — even as its major economic counterparts are trading at or near all-time record highs.
Without a doubt, there was a significant shift in the outlook on central bank monetary policy this week. In fact, the events of the week may represent the official market acceptance of the “end of the easy money” era.
Draghi told us deflation is over and reflation is on. Yellen told us we should not expect another financial crisis in our lifetimes. Carney at the Bank of England told us removal of stimulus is likely to become necessary, and up for debate “in the coming months.” And even the Finance Minister in Japan joined in, saying Japan was recovery from deflation.
With that, in a world where “reflation” is underway, rates and commodities lead the way.
Here’s a look at the chart on the 10-year yield again. We looked at this on Tuesday. I said, the “Bottom May Be In For Oil and Yields.” That was the dead bottom. Rates bounced hard off of this line we’ve been watching …
This reflation theme confirmed by central banks has put a bid under commodities…
That’s especially important for oil, which had been trading down to very dangerous levels, the levels that begin threatening the solvency of oil producers.
That’s a 9% bounce for oil from the lows of last week!
This all looks like the beginning of another leg of recovery for commodities and rates (with the catalyst of this central bank guidance). Which likely means a lower dollar (as we discussed earlier this week). And a quieter broad stock market (until growth data begins to reflect a break out of the sub 2% GDP funk).
Have a great weekend.
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Last week we looked at the some of the clear evidence that the economy is as primed as it can possibly get for a catalyst to come in and pop growth.That catalyst, despite all of the scrutiny, will be Trumponomics.
At the very least, a corporate tax cut will directly hit the bottom line of corporate America. And one of the huge drags on demand, structurally, is the lack of wage growth. And as we discussed, the big winner in a corporate tax cut will be workers/wage growth — a non-partisan tax think tank thinks it can pop wage growth, by as much as doublethe current growth rate. That would be huge, especially for one of the key pillars of the recovery — housing.Remember, the two biggest drivers of recovery have been: 1) stocks, and 2) housing. Those two assets have done the lion’s share of work when it comes to restoring confidence. And a lot of other key pieces fall into place when confidence comes back.
On the housing front, over the past year, both mortgage rates and house prices have gone UP – a new dynamic in the post crisis recovery (adding higher rates into the mix). So owning a house has become more expensive over the past year. But how much?
Let’s take a look at how that has affected the monthly outlay for new homeowners over the course of the past year.
From March 2016 to March 2017, the average 30 year fixed mortgage went from 3.70% to 4.20%.
The Case-Shiller housing price index of the top 20 markets in the U.S. is up 6% over that twelve month period (the most recent data). That’s increased the monthly outlay (principal and interest) for new homeowners by 11% over the past year.
Now, with that said, we look at the recent behavior of the 10 year note (the benchmark government bond yield that heavily influences mortgage rates). It’s been in world of its own — sliding back to seven month lows, while stocks are hitting record highs. Manipulation? Likely. As I’ve said before, don’t underestimate the value of QE that is still in full force around the world — namely in Japan and Europe. That’s freshly printed money that can continue to buy our Treasuries, keeping a cap on interest rates, which keeps a cap on mortgage rates, which keeps the housing recovery and the recovery in consumer credit demand intact.
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Join the Billionaire’s Portfolio to hear more of my big picture analysis and get my hand-selected, diverse stock portfolio following the lead of the best activist investors in the world.As we end the week, we have some remarkable market and economic conditions. U.S. stocks printing new record highs by the day. Yields today broke down. The 10 year yield now trades 2.15%. Oil is under $50.We’re set up to massively stimulative fiscal policies launch into an economic environment that is about as primed as it can possibly get.The stock market is at record highs. The unemployment rate is 4.3%. Inflation is low. Gas is cheap ($2.38), and stable. Mortgage rates are under 4%, and stable. You can borrow money at 2% (or less) to buy a car.
This has all put consumers in as healthy a position as they’ve been in a long time.
As I’ve said, the two key tools the Fed used to engineer a recovery was housing and stocks. That restores wealth, which restores confidence, which gets people spending, hiring and investing again. So stocks are at record highs. And housing (as you can see in the chart below) continues to climb back toward pre-crisis levels.
As a result, we have well recovered and surpassed pre-crisis levels in household net worth, and sit at record highs …
What is the key long-term driver of economic growth over time? Credit creation. In the next chart, you can see the sharp recovery in consumer credit (in orange) since the depths of the economic crisis. This excludes mortgages. And you can see how closely GDP (the purple line, economic output) tracks credit growth.
So credit is back on track. Meanwhile, consumers have never been so credit worthy. FICO scores in the U.S. have reached all-time highs.
With all of this said, the consumer looks strong, but the big missing link and structural drag on the economy in this story has been wage growth. What’s the solution? A corporate tax cut. The biggest winners in a corporate tax cut are workers. The Tax Foundation thinks a cut in the corporate tax rate would double the current annual change in wages.
So think about this backdrop. If I told you at any point in history that these were the conditions, you would probably tell me that the economy was already in, or will be in, an economic boom period. I think it’s coming. And it will drive earnings significantly, which will make the valuation on stocks cheap.
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Stocks continue to bounce back today. But the technical breakdown of the Trump Trend on Wednesday
still looks intact. As I said on Wednesday, this looks like a technical correction in stocks (even considering today’s bounce), not a fundamental crisis-driven sell-off.
With that in mind, let’s take a look at the charts on key markets as we head into the weekend.
Here’s a look at the S&P 500 chart….
For technicians, this is a classic “break-comeback” … where the previous trendline support becomes resistance. That means today’s highs were a great spot to sell against, as it bumped up against this trendline.
Very much like the chart above, the dollar had a big trend break on Wednesday, and then aggressively reversed Thursday, only to follow through on the trend break to end the week, closing on the lows.
On that note, the biggest contributor to the weakness in the dollar index, is the strength in the euro (next chart).
The euro had everything including the kitchen sink thrown at it and it still could muster a run toward parity. If it can’t go lower with an onslaught of events that kept threatening the existence of the euro, then any sign of that clearing, it will go higher. With the French elections past, and optimism that U.S. growth initiatives will spur global growth (namely recovery in Europe), then the European Central Bank’s next move will likely be toward exit of QE and extraordinary monetary policies, not going deeper. With that, the euro looks like it can go much higher. That means a lower dollar. And it means, European stocks look like, maybe, the best buy in global stocks.
A lower dollar should be good for gold. As I’ve said, if Trump policies come to fruition, inflation could get a pop. And that’s bullish for gold. If Trump policies don’t come to fruition, the U.S. and global growth looks grim, as does the post-financial crisis recovery in general. That’s bullish for gold.
This big trendline in gold continues to look like a break is coming and higher gold prices are coming.
With all of the above, the most important chart of the week is probably this one …
The 10 year yield has come all the way back to 2.20%. The best reason to wish for a technical correction in stocks, is not to buy the dip (which is a good one), but so that the pressure comes out of the interest rate market (and off of the Fed). The run in the stock market has clearly had an effect on Fed policy. And the Fed has been walking rates up to a point that could choke off the existing economic recovery momentum and, worse, neutralize the impact of any fiscal stimulus to come. Stable, low rates are key to get the full punch out of pro-growth policies, given the 10 year economic malaise we’re coming out of.Invitation to my daily readers: Join my premium service members at Billionaire’s Portfolio to hear more of my big picture analysis and get my hand-selected, diverse portfolio of the most high potential stocks.
As we ended this past week, stocks remain resilient, hovering near highs. The Nasdaq had a visit to the 200-day moving average intraweek for a slide of a whopping (less than) 1%, and quickly it bounced back.It’s a Washington/Trump policies-driven market now, and while the media carries on with narratives about Russia and the FBI, the market cares about getting health care done (which there was progress made last week), getting tax reform underway, and getting the discussion moving on an infrastructure spend.We looked at oil and commodities yesterday. Chinese stocks look a lot like the chart on broader commodities. With that, the news overnight about some cooperation between the Trump team and China on trade has Chinese stocks looking interesting as we head into the weekend.
Let’s take at the chart…
While the agreements out of China were said not to touch on steel and industrial metals, the first steps of cooperation could put a bottom in the slide in metals like copper and iron ore. These are two commodities that should be direct beneficiaries in a world with better growth prospects, especially with prospects of a $1 trillion infrastructure spend in the U.S. With that, they had a nice run up following the election but have backed off in the past couple of months, as the infrastructure spend appeared not to be coming anytime soon.
Here’s copper and the S&P 500…
Trump policies are bullish for both. Same said for iron ore…
This is right in the wheelhouse of Wilbur Ross, Trump’s Secretary of Commerce. He’s made it clear that he will fight China’s dumping of steel on the U.S. markets, which has driven steel prices down and threatened the livelihood of U.S. steel producers. Keep an eye on these metals next week, and the stocks of producers.
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With some global stock barometers hitting new highs this morning, there is one spot that might benefit the most from this recently coordinated central bank promotion of a higher interest environment to come. It’s Japanese stocks.
Join the 
As we ended this past week, stocks remain resilient, hovering near highs. The Nasdaq had a visit to the 200-day moving average intraweek for a slide of a whopping (less than) 1%, and quickly it bounced back.It’s a Washington/Trump policies-driven market now, and while the media carries on with narratives about Russia and the FBI, the market cares about getting health care done (which there was progress made last week), getting tax reform underway, and getting the discussion moving on an infrastructure spend.We looked at oil and commodities yesterday. Chinese stocks look a lot like the chart on broader commodities. With that, the news overnight about some cooperation between the Trump team and China on trade has Chinese stocks looking interesting as we head into the weekend.
