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January 9, 5:00 pm EST We discussed yesterday how markets might look by the end of the year, if the pontifications about a global slowdown and impending crisis are dead wrong. The reality: That is the low probability outcome. The higher probability outcome is another 3%+ year growth in the U.S. in 2019, a resolution on the Chinese trade dispute, and a rebound in emerging market growth. With the “high probability scenario” in mind, let’s take a look at some key charts that look very vulnerable to a sharp squeeze. Remember, oil and stocks have been in a synchronized decline since October 3. On Friday we looked at this chart on oil, and the break of the big downtrend that accompanied some rate-hike relief jawboning from the Fed. |
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Today the chart looks like this …up almost 9% from Friday.
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Here’s the chart on stocks we looked at on Friday …
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We broke a big level on Friday at 2,520. We’re up another 2.3% since. What about yields? The fear in the interest rate market hasn’t been/wasn’t that the economy can’t withstand a 3% ten-year yield. The fear has been the speed at which the interest rate market was moving, and the methodical tightening process of the Fed. Would 3% quickly become 4%? The Fed has now backed off. That quells the fears of a “too far, too fast” adjustment in rates. But the interest rate market had already been pricing in the worst case scenario (another recession and crisis, in part thanks to the Fed policy). If that was an over-reaction, I suspect we’ll see a move back toward 3%-3.25% in the 10s in the coming months. As you can see in the chart, this big line is being tested today. And as long as the Fed stays data dependent, not telegraphing another series of hikes, the market should accept a 3% ten year yield just fine. |
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To sum up: Markets tend to be caught wrong-footed at the extremes — leaning too hard in one direction, with sentiment too depressed or too exuberant. And I suspect we’ve seen that extreme in Q4. Sentiment was deeply shaken by the sharp decline in stocks, and that spilled over into the outlook for global economic stability.
But as we discussed yesterday, we have a Q4 earnings season upon us that is set up for positive surprises (given the sharp downward adjustment in expectations). And if Trump gives some ground to get a deal done with China, these key markets are set up for big and sharp recoveries. 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.
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July 3, 5:00 pm EST
Yesterday we talked about the set up for the Dow. In the past couple of trading sessions, it traded perfectly into the trendline (support) that represents the run in stocks following the 2016 election.
It’s especially compelling when we consider that the Dow has been the laggard coming out of the broad stock market correction. As I said yesterday, this sets up for a second half where money should aggressively move back toward the blue chips.
With this in mind, I want to revisit some analysis I talked about last July. It’s from billionaire investor Larry Robbins (of the hedge fund Glenview Capital).
Robbins looked back at the important influence of low interest rate environments on stocks. He said “every time ONE of these following conditions has existed, the market has produced positive returns.
Here they are again:
- When the 30-year bond yield begins the year below 4%, stocks go up 22.1%.
- When investment grade bonds yield below 4%, stocks go up 16%.
- When high yield bonds yield below 8%, stocks go up 11.6%.
- When cash as a percent of asset for non-financials is above 10%, stocks go up 17.6%.
- When the Fed tightens 0-75 basis points in the year, stocks go up 22%.
- When oil falls more than 20%, stocks go up 27.5%.
His study showed that there has NEVER been a down year in stocks, when any ONE of the above conditions is met.
Now, we looked at this last year this time, and the S&P 500 finished up close to 20% on the year. It also worked in 2015. And it worked in 2016.
Does it apply this year? All apply, with the exception of oil. Oil is UP, big. And assuming the Fed hikes one more time this year. Still, as Robbins said, we need just ONE of these conditions to be met. The point is, low interest rates tend to make stocks go UP. That’s because global capital tends to reach for more risk to get return in a world where risk-free bonds aren’t compensating them enough.
Bottom line: Ignore all of the geopolitical noise. Low rates continue to tell us stocks will go up. And to make it easy for us, the DJIA is starting today at essentially the zero line — flat on the year!
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June 18, 5:00 pm EST
For much of last summer, we talked about the building bull market in commodities.
The price of crude oil has nearly doubled since that time. But broader commodities have yet to take off.
Remember, we’ve looked at this chart of commodities versus stocks quite a bit.
As we’ve discussed, the only two times commodities have been this cheap relative to stocks were at the depths of the Great Depression in the early 30s and at the end of the Bretton Woods currency system in the early 70s.
And from deeply depressed valuations, commodities went on a tear, both times.
Now, since last summer, the trajectory of commodities has been up. But so have stocks. Still, this gap has narrowed a bit. Stocks are up 13% in the past year. The CRB index is up 17%.
The big difference between this year and last year, is the level on the 10-year yield. Last year this time, yields were 2.20%. Today, yields are closer to 3%. That’s because the economy is hotter, and inflation is finally reaching the Fed’s target of 2%.
What asset class should perform the best in a rising inflation environment? Commodities. As we’ve discussed in recent weeks, the data on the economy is lining up for some big positive surprises. That will be fuel for commodities prices.
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June 14, 5:00 pm EST
Tech stocks and small caps continue to behave like an economy that is about to take off.
The Nasdaq is now up 14% on the year. The Russell 2000 is up 10%. The S&P 500 (with more global exposure) is lagging it all, up just 4%.
Is it telling us that the investments in the U.S. are gaining more favor, relative to the rest of the world? Maybe. Is it telling us that capital is flowing toward the U.S. to align with Trump policies and away from those that may be harmed by being on the wrong side of Trump. Maybe.
With that said, we know Europe has been slowing. We know the “Italy-risk” presents another drag on that outlook. As such, the ECB followed the Fed’s hike yesterday with a rather dovish outlook this morning. Draghi laid out a timeline for following the Fed’s lead on normalization that was a little slower/ little later than expectations. That sent the dollar soaring, the euro plunging, and rates in Europe lower.
Tonight, we hear from the Bank of Japan. Remember, this is the lynchpin in keeping a lid on global interest rates. As long as they have the QE spigot wide-open, our yields (and therefore our consumer rates) will be well contained.
Japan’s policy on pegging its 10-year yield at zero has been the anchor on global interest rates. Forcing their benchmark government bond yield back to zero, in a world where there has been upward pressure on interest rates, has meant that they can, and will, buy unlimited amounts of JGBs to get the job done. That equates to unlimited QE. When they finally signal a change to that policy, that’s when rates will finally move.
May 18, 5:00 pm EST
We’ve talked this week about the pressure that rising U.S. market interest rates are putting on emerging markets.
The fear surrounding the big 3% marker for U.S. 10-year yields is that 3% may quickly become 4%. And a 4% yield, much less a quick adjustment in this key benchmark interest rate, would cause some problems.
Not only does it create capital flight out of areas of the world where rates are low, and monetary policy is heading the opposite direction of the Fed, but a quick move to a 4% yield on the 10-year would certainly cloud the U.S. economic growth picture, as higher mortgage and consumer borrowing rates would start chipping away at economic activity.
With that said, we may have a reprieve with the action today in the bond market.
As we head into the weekend, today we get a softening in the rates market. And that came with a big technical reversal pattern (an outside day).
I suspect we may have seen some global central bank buyers of our Treasurys today (which puts downward pressure on yields) to take a bite out of the momentum. We will see if this quiets the rate market next week, for a drift back down to 3%. That would calm some of the nerves in global currencies, and global markets in general.
May 15, 3:00 pm EST
The move in the 10-year yield was the story of the day today. Yields broke back above 3% mark, and moved to a new seven-year high.
That fueled a rally in the dollar. And it put pressure on stocks, for the day.
We’re starting to see more economic data roll in, which should continue building the story of a hotter global economy. And it’s often said that the bond market is smarter than the stock market. There’s probably a good signal to be taken from the bond market that has pushed the 10-year yield back to 3% and beyond (today). It’s a story of better growth and growing price pressures, which finally represents confidence and demand in the economy.
From a data standpoint, we’re already seeing early indications that fiscal stimulus may be catapulting the economy out of the rut of the sub-2% growth and deflationary pressures that we dealt with for the decade following the financial crisis. We’ve had a huge Q1 earnings season. We’ve had a positive surprise in the Q1 growth number. The euro zone economy is growing at 2.5% year-over-year, holding toward the highest levels since the financial crisis. And we’ll get Q1 GDP from Japan tonight.
Another key pillar of Trumponomics has been deregulation. On that note, there’s been plenty of carnage across industries since the financial crisis, but no area has been crushed more by regulation than Wall Street. And under the Trump administration, those regulations are getting slashed.
Among the most damaging for big money center banks has been the banning of proprietary trading. That’s a huge driver of bank profitability that has been gone now for the past eight years. But it looks like it’s coming back. Bloomberg reported this morning that the rewrite of the Volcker Rule would drop the language that has kept the banks from short term trading.
That should create better liquidity in markets (less violent swings). And it should drive better profitability in banks. Will it lead to another financial crisis? For my take on that, here’s a link to my piece from last year: The Real Cause Of The Financial Crisis.
April 23, 6:00 pm EST
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.
January 11, 4:00 pm EST
Yesterday we talked about the move underway in interest rates. And we talked about the media’s (and Wall Street’s) desperate need to fit a story to the price.
On that note, they had been attributing rising U.S. rates to a vaguely attributed report from Bloomberg that suggested China might find our bonds less attractive. As I said, that type of speculation and chatter isn’t new (i.e. not news). Not only was it not news, China called it “fake news” today.
But as we discussed yesterday, rates are on the move for some very simple fundamental reasons. It’s the increasing probability that we will have the hottest U.S. and global growth in the post-crisis era, this year — underpinned by fiscal stimulus. And that’s inflationary. That’s bullish for interest rates (bearish for bonds).
So, again, money may just be in the early stages of moving OUT of bonds and cash, and BACK into stocks.
But, as we’ve also discussed, the real catalyst that will unshackle market interest rates from (still) near record low levels (globally) is the end of global QE.
And that will be determined by the central banks in Europe and Japan. On that note, the European Central Bank has already reduced its monthly asset purchases (announced last October), and they’ve announced a potential end date for QEin September of 2018. This morning, we heard the minutes from the most recent ECB meeting. And the overwhelming focus, was on stepping up the communication about the exit (the end of emergency policies). And don’t be surprised if European governments follow the lead of the U.S. with tax cuts to accompany the exit of QE.
In support of this outlook, the World Bank just stepped up growth expectations for the global economy for 2018 to 3.1%, saying 2018 is on track to be the first year since the financial crisis that the global economy will be operating at full capacity.
With the above in mind, you can see in this next chart just how disconnected the interest rate market is from the economic developments.
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With a Fed decision queued up for tomorrow, let’s take a look at how the rates picture has evolved this year.
The Fed has continued to act like speculators, placing bets on the prospects of fiscal stimulus and hotter growth. And they’ve proven not to be very good.
Remember, they finally kicked off their rate “normalization” plan in December of 2015. With things relatively stable globally, the slow U.S. recovery still on path, and with U.S. stocks near the record highs, they pulled the trigger on a 25 basis point hike in late 2015. And they projected at that time to hike another four times over the coming year (2016).
Stocks proceeded to slide by 13% over the next month. Market interest rates (the 10 year yield) went down, not up, following the hike — and not by a little, but by a lot. The 10 year yield fell from 2.33% to 1.53% over the next two months. And by April, the Fed walked back on their big promises for a tightening campaign. And the messaging began turning dark. The Fed went from talking about four hikes in a year, to talking about the prospects of going to negative interest rates.
That was until the U.S. elections. Suddenly, the outlook for the global economy changed, with the idea that big fiscal stimulus could be coming. So without any data justification for changing gears (for an institution that constantly beats the drum of “data dependence”), the Fed went right back to its hawkish mantra/ tightening game plan.
With that, they hit the reset button in December, and went back to the old game plan. They hiked in December. They told us more were coming this year. And, so far, they’ve hiked in March and June.
Below is how the interest rate market has responded. Rates have gone lower after each hike. Just in the past couple of days have, however, we returned to levels (and slightly above) where we stood going into the June hike.
But if you believe in the growing prospects of policy execution, which we’ve been discussing, you have to think this behavior in market rates (going lower) are coming to an end (i.e. higher rates).
As I said, the Hurricanes represented a crisis that May Be The Turning Point For Trump. This was an opportunity for the President to show leadership in a time people were looking for leadership. And it was a chance for the public perception to begin to shift. And it did. The bottom was marked in Trump pessimism. And much needed policy execution has been kickstarted by the need for Congress to come together to get the debt ceiling raised and hurricane aid approved. And I suspect that Trump’s address to the U.N. today will add further support to this building momentum of sentiment turnaround for the administration. With this, I would expect to hear a hawkish Fed tomorrow.
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