Pro Perspectives 1/28/20

January 28, 2020

Yesterday we talked about the prospects of the "coronavirus narrative" giving way to the power Q4 earnings.  

That was the case today.

Remember, we're in the heart of fourth quarter earnings, with 35% of the S&P 500 reporting this week.  And the tech giants are leading the way.  We heard from Apple and Ebay after the bell today (both beat).  We hear from Microsoft, Amazon and Facebook tomorrow. 

Overall, the table has been set for earnings beats.  As I've said, never underestimate the appetite of Corporate America to lower the expectations bar when given the opportunity.  They did so in their third quarter calls, taking advantage of the global uncertainty surrounding trade.

And now we're getting about seven out of every ten companies beating Q4 estimates.  And with a trade deal now papered, the outlook expressed in these Q4 earnings calls is as good as we've seen from corporate America since early 2018 calls, which followed the big corporate tax cut.    

With the focus turning toward earnings, we looked at this big trendline support yesterday in stocks.  

As you can see, we did indeed get a nice bounce from this line. 

And with that, we had a fall back in the VIX from what is relatively subdued levels, for what has been scrutinized as a pandemic threat.  

Pro Perspectives 1/27/20

 

January 27, 2020

On Friday we talked about the rising pandemic scare, and the related bearish technical signal that formed on stocks, as we headed into the weekend.

With that, the likelihood of more coronavirus headlines going into the weekend was high, and therefore the likelihood of a tough to start to the week for global markets was high.  Indeed, global stocks open the week down big.  U.S. stocks have now given back the gains on the year (up 3% at one point).  And the VIX (the fear gauge) is rising, albeit fairly modestly so far (from 14 to 19).  Gold, same thing (rising but fairly modestly).

This market behavior suggests what’s probably a rational response to the coronavirus risk to the global economy (i.e. a risk, but a low risk).  Remember, back in 2014, when fear spiked about Ebola, the stock market got hit for about seven percent in six days.  The VIX spiked from 14 to 31.  But stocks recovered the losses in just seven days.  The VIX returned to “pre-scare” levels within days too.  For more insight into stock market behavior and historic pandemics and pandemic threats, here’s some interesting 2006 research from Fidelity when bird flu was spreading (link).

So, in this current case, stocks are again being sold for non-company specific (non-fundamental) reasons.   That typically is a gift to buy at cheaper prices (i.e. to fade the risk-aversion move in markets).  But how much cheaper?

Let’s take a look at some charts …

We have some interesting technical levels already developing in key stock markets.

U.S. stocks end the day on this big trendline that represents the recovery that has been driven by 1) the handshake on a U.S./China trade deal back in October, and 2) the Fed and ECB’s return to balance sheet expansion.

German stocks sit on a similar trendline …

What could overwhelm the coronavirus theme?  Earnings.  And we have a big earnings week ahead – 35% of the S&P report this week.  Apple reports tomorrow after the close.  And then Wednesday, we get Microsoft, Amazon, Facebook and Visa, to name a few heavyweights.

 

Pro Perspectives 1/24/20

January 24, 2020

We were watching for the PMI data today, for early clues that a bounceback in global manufacturing may materialize in the months ahead.  

We did indeed get a positive surprise on the German number (that’s for the economic engine of Europe).  And the overall eurozone PMI number came in better than expected too.  That's good news.  With this, stocks in Europe had a big day, up 1% on the German DAX, up 1% in the UK and up over 1% on the broad blue chip Euro Stoxx Index.

But overall it was a "de-risking" day heading into the weekend, with uncertainty surrounding the coronavirus.  U.S. stocks gave back about a percent of the gains on the month (still up 2%).  But the easier place to see global capital flows expressing unease about the virus is in U.S. Treasuries.  When fear sets in, money plows into the biggest, most liquid market as a parking place (bond prices go up, yields go down).  With that, 10-year yields traded as low as 1.67% today. 

We looked at chart on yields yesterday.  Let's take a look at stocks as we head into the weekend.   

We have a technical reversal signal in stocks today (a bearish outside range). 

Even with the very positive fundamental tailwinds for stocks, that's hard to ignore. 

 

As we know from the Ebola scare, fear can hit stocks quickly. But the fear-induced declines tend to be quick and with quick recoveries.  When google searches spiked on Ebola back in October of 2014, the stock market got hit for about seven percent in six days.  Seven days later, the decline was fully recovered. 

Here's a look at the search spike for coronavirus … 

In the case of the surge in Ebola fears, the VIX spiked from 14 to 31 during that October period.  The VIX closes today at 14. 

Pro Perspectives 1/23/20

January 23, 2020

The European Central Bank met this morning and had no surprises for markets.

The ECB has already restarted QE, and now will likely wait to see if the data improves following the removal of the U.S./China trade war drama.  

The first indication will come tomorrow, with a "flash" estimate on January manufacturing activity.  As you can see in the chart below, Germany is in a manufacturing recession.

The estimate for tomorrow's report is for no improvement.  We'll see if there's a positive surprise, given that it has been more than a month (December 13th) since the U.S. and China formally agreed to terms and telegraphed a deal signing.  And mid-month (January 15th), we had the official signing of the deal. 

For stocks, it doesn't matter.  Against the wishes of many market folks, who would like to see a dip to buy, the formula of ultra-low rates, an expanding balance sheet, and deficit spending in the U.S. are overwhelming even risks of pandemic.   

What will put the brakes on stocks?  Ultimately, it will be rates.  But as you can see in the chart below, rates won't be a problem anytime soon. 

 
With stocks on record highs, the key market interest rate/ the 10-year yield traded as low as 1.71% today.  Yields were down around these levels when the global economy was beginning to look shaky enough to force the Fed to start expanding the balance sheet again (September), and force Trump to invite China into the Oval Office to signal/make a hand shake deal on trade (October). 
 
But unlike September and October, the level on market interest rates seems to be less about risk, and more about the global monetary policy, and a lack of new economic data that would suggest an inflationary threat.
 
On that note, the Fed has told us that they won't raise rates until they see "significant and persistent" inflation above their target.  With that statement in the minds of market participants, it won't take much hot economic data to start the betting that the Fed will be late, and end up chasing inflation from behind.  That "bet" should translate into a 10-year yield much higher than the current effective Fed funds target rate of 1.55%.    
 

Pro Perspectives 1/22/20

January 22, 2020

Markets continue to like the fiscal and monetary fuel — without the overhang of a trade war. 

That's not surprising. But what is the new information that will drive markets in the coming months?  Earnings and economic data — both of which are setup for positive surprises.

On the latter, as we discussed yesterday, the PMI data will be key, because of this chart …

As confidence in a positive trade war outcome waned last year, so did business confidence, and therefore, so did manufacturing activity — not just in the U.S., but globally.
 
But a deal has been done.  And the data over the next two days on global PMIs will give us early indications on how quickly the business confidence will bounce back.  We get UK and Japanese manufacturing data tomorrow, and then German, Eurozone and U.S. readings (for January) on Friday.   

On the earnings front:  We're getting into the heart of earnings.  Remember, coming in, Wall Street was looking for a contraction in S&P 500 earnings for Q4.  So far, the big banks have led the way with good numbers, showing a strong consumer.  That’s a good sign.  And Wall Street is projecting energy, as the sector to be the biggest gainer on the year. 

With the above in mind, if you believe (as I do) that we're in for a year of above trend economic growth (finally, 10 years after the financial crisis), then we should like the two sectors that had the biggest weighting dislocation in the S&P 500 over the past decade.  In 2006, the financials represented 22% of the S&P 500. Today, the financials are just 13%.  In 2006, the energy sector represented 10% of the S&P 500.  Today its 5%. 

Pro Perspectives 1/21/20

January 21, 2020

We entered the year with clear tailwinds of easy global monetary policy, and the removal of the risk of an indefinite U.S./China trade war. 

That has been good for ten new record highs in stocks, in just thirteen trading days. 

Global political and business leaders are in Switzerland this week at the World Economic Forum.  Trump set the tone for the forum this morning, in a speech, spreading his formula for economic prosperity.  

This "economic boom" talk should put pressure on other countries to get more aggressive to stimulate growth this year.  As we know, the central banks have already returned to full-throttle easy money policies.   And Japan has followed the lead of the U.S., launching a fiscal stimulus package last month.  This should be the year that eurozone politicians will be forced to throw a lifeline to the ECB by helping with some stimulative fiscal action.  

On that note, we have the ECB meeting on Thursday.  Remember, we have a new ECB President.  This will be (the former IMF head) Christine Lagarde's second meeting as the head of the ECB.  She inherited the job after a decade of global stimulus that has left the eurozone economy running at 1% growth and 1% inflation.  Her predecessor, Mario Draghi, had already restarted another bond buying program (QE) in Europe, with no clear end in mind.

In her ECB debut, she made the pleas for fiscal stimulus help.  Expect more of that on Thursday. 

After that, the market should turn focus to global PMI data – which will start rolling in on Friday. 

The PMI data is where the decay in business confidence, from the trade war, was visible over the past six months — which contributed to global central bank action, and likely to Trump pulling the trigger on a trade deal.

The good news:  Confidence can bounce back quickly.  And with that (trade) risk now removed, the PMIs should be set up for positive surprises.   

Pro Perspectives 1/17/20

January 17, 2020

Let's take a closer look at gold today. 

This should be the year, for the first time in a long time, that gold prices become driven by the "inflation hedge" attributes, moreso than the "safe-haven/fear trade" attributes. If that's the case, and if we do indeed finally get a push in inflation, gold could be in for much higher prices.  It will be the manifestation of all of the central bank intervention of the past decade. 

The market poured into gold early on in the financial crisis, and was dead wrong about inflation (it didn't materialize in a world of global indebtedness). 

So, what do the inflation prospects look like now?

Remember, back in December, Jay Powell, at least verbally, committed the Fed to holding off on any future rate hikes until inflation "persistent and significant." In short, they've told us, they are staying put (sitting on their three rate cuts) until inflation bubbles up and proves to be sustaining at or above their 2% inflation target. 

If you consider the scenario of above average economic growth coming down the pike this year, the Fed is clearly in position to get behind on inflation – which I think they are okay with (they think they can beat inflation, and aren't so convinced they can beat deflation).   

This makes the outlook for gold very interesting. 

At the highs last Friday, gold has moved up 10% from the day Powell made those comments in his December press conference.  And often times it takes a catalyst to really things moving.  We may have had that with the escalation with Iran to begin the year. 

So, was this an abnormally large move in gold?  Is it something meaningful? 

It turns out, this type of aggressive move has some rare company.  Take a look at this chart I worked up on the 20-day moves in gold since the beginning of the Financial Crisis.  This $146 move in gold puts it in what I called the "big event zone" (Iran blowing up oil tankers, the surprise Brexit vote, the ECB intervening to avert sovereign debt defaults in Europe, the global financial crisis).    
If this is a real "inflation hedge" trade underway here in gold, we should be in for much higher gold prices. 

Pro Perspectives 1/16/20

January 16, 2020

Yesterday at the U.S./China trade signing event, Trump went around the room and named leaders from about 20 publicly traded companies.

Let’s take a look at the list, and how they’ve performed (today, year-to-date and since the start of 2018)…

You’ll notice half of the group was either a financial or industrial conglomerate.

Clearly they like the prospect of seeing the opening up of China (giving international business access to its 1.3 billion population) and the opportunity to own full control of a business in China. But they are also simply interested in a more stable geopolitical environment, and therefore a better economy (and one with more visability from which to plan and execute).

On the note of “opening up China,” Lui mentioned in his speech that China’s per capita GDP is now exceeding 10,000 U.S. dollars. Aside from the sheer size of the Chinese population, that per capita GDP makes for a very valuable consumer.

Why? Historically, every major developed world economy hit a point of per-capita GDP that triggered an exponential rise in the consumption of commodities. When you hit a certain level of per capita wealth you get the kind of improvements in quality of life that begin to drive demand for things like electricity, air conditioning, cars, etc.

With this in mind, remember this chart of commodities we’ve been looking at here in my Pro Perspectives notes …
And remember, compared to the S&P 500 (the commodities index/S&P 500 ratio) commodities have never been cheaper.

 

Pro Perspectives 1/15/20

January 15, 2020

With stocks sitting on record highs, we had the official signing of the Phase 1 U.S./China trade deal today.

Let’s revisit the important week of October that got us to this point.

It started on October 9th, when Trump, in anticipation of meetings with China in D.C. over the following two days, blacklisted eight Chinese tech firms and restricted the visas on some Chinese officials, all of which they associated with human rights abuses on Muslim minorities in China.

Why do this, just as they were heading into trade negotiations again?

Leverage.  Trump has always had leverage over the Chinese on these negotiations, and had been in complete control (able to make concessions and pull the trigger on a deal at any time).   But that leverage had eroded in recent months.  And China had been signaling that perhaps they would hold out in hopes of seeing a new President in a year’s time.

But Trump found an angle to dissuade the Chinese from turning their backs on a deal.  By taking aim at the human rights abuses of the CCP, he telegraphed how the specter of the fight might change.

Two days later, they were standing in the Oval Office shaking hands on a cut-down trade deal.

This is what the chart of stocks looks like since that October 11th handshake …

As I’ve said, with a fundamentally strong economy, Trump has been in the driver’s seat to force structural reform.  And he’s getting it.  Don’t underestimate the importance of dealing with the global imbalance issue that ultimately led to the global credit bubble and burst.  And stopping the currency manipulation (and the related trade advantage) is at the core of it.  

As part of the agreement, China has vowed to “achieve and maintain a market-determined exchange rate regime.”  A floating exchange rate in China is very unlikely, but stronger yuan (to pacify the U.S.) is more likely.  That curtails the trade advantage.

As you can see in the chart below, the Chinese have been moving the yuan in that direction (the decline the chart below represents a weaker U.S. dollar/ stronger Chinese yuan) since the handshake agreement in early October in the Oval Office. And there is likely a lot more to come.
Pro Perspectives 1/14/20

January 14, 2020

Fourth quarter earnings kicked off today, with three of the big four banks reporting this morning.   

The banks have been putting up good numbers for a while now, underpinned by strong consumer business.  But now the trading business looks like its coming back.  

The largest bank in the country, JP Morgan, beat earnings estimates, recording another new record profit.  Trading (Markets) revenue was up 56% from the same period a year ago.  

Citigroup beat for the twentieth consecutive quarter.  Trading revenue was up 28%.

 
We'll hear from Bank of America tomorrow.  BAC has had fourteen consecutive quarters of earnings beats.  Wells Fargo isn't enjoying the prosperity, but it's company specific.  Wells is a turnaround story, with a new CEO just three months on the job, trying to resolve the company's self-induced PR debacle.  And as smart new CEO's do, when entering a tough spot, they try to set the expectations bar low. That's being done with Wells.

Tomorrow we also hear from Goldman Sachs.  I suspect we'll also see a pop in trading revenues. 

Trading was the motherlode for banks prior to the financial crisis.  And the jig seemed to be up, following the failure of Lehman Brothers, when the regulators cracked down on proprietary trading, through the Volker Rule (within the Dodd-Frank Act).  

 
The line of managing the risk of market making activities and speculative trading, by the big banks, is a blurry one. And the Volker Rule put the burden on the banks to prove that their trading activity is against their market making activity. That weakened the market making businesses of the banks and increased compliance costs. And the major Wall Street banks were not the same. 
 
But since August of last year, that rule has been revised.  The banks now are "presumed" to be in compliance, rather than having to prove (as part of their everyday trading activities) that they are in compliance.  This was a fairly quiet final revision to a very important regulatory issue facing the big banks — and perhaps one that has begun bearing fruit.
 
With that in mind, if we look back at the sector weightings in the S&P 500, financials were the heaviest weighted sector in the years leading up to the financial crisis — at 22% of the index.  The financials currently make up just 13% of the S&P 500.