We have another normal economic calendar.
The election is behind us. The Fed decision is behind us. What next?
Some of the punditry convened after Wednesday’s rally to say that it was time to get “back to reality.” Others are wondering about a year-end rally. Since everyone keys off what happened the day before (!!) the preponderance of commentary might go either way.
In either case, I expect pundits, to look back at recent volatility, technical support levels, and headline risk. They will be asking:
Has the stock market storm been averted?
Last Week Recap
In my last edition of WTWA I guessed that the punditry focus on the continuing market pressures and warning technical signals. There was some validity in this until Wednesday. My suggestion that the end of the election would be a market positive proved to be correct. We do not know, of course, the exact reason. Some insisted on a “gridlock” interpretation, but the outcome was in line with expectations. My guess was OK, but not great. It was a tough week to call and we stayed on the right side of the trade.
The Story in One Chart
I always start my personal review of the week by looking at a great chart. This week I am featuring Jill Mislinski. She includes a lot of relevant information in a single picture – worth more than a thousand words. Read the full post for more great charts and background analysis
The market gained 2.1% (added to last week’s 2.7%) and the weekly trading range was 3.4%. The range was lower than in recent weeks, but it did not feel that way for those closely watching the market. I summarize actual and implied volatility each week in our Indicator Snapshot section below.
Will a robot take your job? Jenny Scribani at Visual Capitalist pulls together the evidence.
Each week I break down events into good and bad. For our purposes, “good” has two components. The news must be market friendly and better than expectations. I avoid using my personal preferences in evaluating news – and you should, too!
New Deal Democrat’s high frequency indicators are an important part of our regular research. This week reflects some softening in the long leading indicators, although his rating remains “neutral.”
When relevant, I include expectations (E) and the prior reading (P).
- Earnings forecasts are showing surprising strength. Brian Gilmartin tracks the quarter-by-quarter changes, generally not showing the declines we often see. Company reports are also mentioning tariffs less frequently on earnings calls. John Butters illustrates the pattern, sector-by-sector. See alsoAvondale’s excellent article summarizing conference call notes.
- Initial jobless claims dipped to 214K, continuing the streak of low readings (Bespoke).
- The Fed decision of no policy change was expected by all and the accompanying language was not worrisome.
- Foreclosure inventory falls to the pre-recession average. (Calculated Risk).
- ISM non-manufacturing registered 60.3 E 58.8 P 61.6.
- Rail traffic improved but the pace of improvement is decelerating. Steven Hansen does a comprehensive analysis with special emphasis on what he calls the “economically intuitive sectors.” This is a valuable element, not seen in other sources.
- Mortgage credit availability is increasing. “Davidson” (via Todd Sullivan) explains why this is significant for the economy, construction, and lenders.
- The JOLTS Report continues to reflect employment strength. I especially like the chart below from Jill Mislinski. It shows the improvement of all key elements of the series, compared with a flat line for layoffs. This interesting survey only goes back to 2001, so we do not have many business cycles to analyze. Read the entire post for a collection of other charts and interesting business cycle analysis. Hint: No sign of labor market weakness.
But a look at JOLTS requires examining the Beveridge Curve!
- Individual investor sentiment becomes more bullish, viewed as a contrary indicator. (Bespoke)
- Hotel occupancy declined a bit. Calculated Risk analyzes the seasonal components and comparisons with prior year. YTD 2018 is slightly ahead of the record in 2017.
- PPI ran hot with core final demand up 0.5% MoM. (Jill Mislinski).
Forgetting veterans. Some Chicago politicians are proposing raising desperately needed cash by selling naming rights to various public holdings. I don’t mind City Hall, if they can find a buyer, but the airport idea is repugnant.
O’Hare airport began as a military installation, Orchard Field. It is still designated as ORD, but was renamed for Edward “Butch” O’Hare, the Navy’s first flying ace and the first WWII naval recipient of the Medal of Honor.
Midway Airport opened in 1926 and was originally called Chicago Municipal Airport. It was renamed for the Battle of Midway in 1949.
These names should be untouchable.
The Week Ahead
We would all like to know the direction of the market in advance. Good luck with that! Second best is planning what to look for and how to react.
The calendar is normal in significance. The CPI will be watched closely, especially after the PPI report. Retail sales are expected to show a sharp rebound – important to confirming economic strength. The Philly Fed attracts interest as the early read on November data.
And of course – continued tweets, leaks, and speeches.
Briefing.com has a good U.S. economic calendar for the week. Here are the main U.S. releases.
Next Week’s Theme
Last week I opined that “It will require a major surprise for a market reaction to the election.” Unless many were surprised by the expected result, that was a bad call! Eddy Elfenbein always provides a simple, concise, and meaningful interpretation of such events. He writes:
On Tuesday, Americans went to the polls and they voted for gridlock. Or more accurately, the Democrats won control of the House of Representatives while the Republicans increased their Senate majority.
What does this mean for us as investors? Eh…not much, really. Sure, I know how partisans like to jump and holler, but the long-term impact on the markets is pretty small. Historically, bull markets have done just fine while there’s been gridlock in Washington. If anything, Wall Street seems pleased that the uncertainty of the election has passed.
But Eddy is not willing to signal “all clear” and neither am I.
We were on the edge of a storm, with many danger signals. Last week’s trading has improved the technical picture. This shifts the question to the headline risk, referred to as “the fundamentals” by some who are uncomfortable with math. I expect pundits of all stripes to be wondering:
Has the storm been averted?
I have recently offered some bearish viewpoints and suggested some flaws. This week, let’s try it the other way around, starting with a list of what might go right.
Briefing.com publishes both stock and bond commentary, part of their free services. (I find the platinum service to be valuable). Patrick J. O’Hare’s market assessment, From the Midterm to the Final Exam, is interesting and balanced. I will take a closer look, once again intermingling my comments in cases where there is something important to add. I’ll put my thoughts in italics. While data-based, these represent my own conclusions. I act on them, but you should make your own decisions!
There are a number of reasons why the punditry is making a case for the stock market to finish this year with a bang:
- The uncertainty surrounding the midterm election is over and investors can feel good that a split Congress means there won’t be a legislative unwinding of market-friendly policies. [The split Congress has little effect on market-friendly policies. Nothing was going to be repealed over a veto. What it means is no tax-cut 2.0 and a likely fight over debt limits].
- November marks the start of the best six-month return period for the stock market, so this is typically a seasonally strong time. [True, but the seasonal effects have not been very important in recent years. The end of the year does encourage everyone to start thinking about next year’s earnings, so stocks seem a bit cheaper. They should, of course, always be looking forward, but most do not].
- There is going to be performance chasing by fund managers who have underperformed their benchmark. [There is not much to chase so far! Lagging results have come mostly from under-owned FAANG stocks. I don’t see how “chasing” will help the overall market].
- Corporate share buyback activity will pick up in earnest now that the third-quarter reporting period is mostly behind the market. [True].
- Valuation is more attractive in the wake of the October correction. The S&P 500 trades at 16.1x forward twelve-month estimates — a slight discount to the five-year historical average and versus 18.3x at the start of the year. [This is the biggest factor, reflecting improved fundamentals. Eventually, attractive pricing trumps negative sentiment].
- They expect President Trump and President Xi to convey some trade tension detente after meeting at the G20 Leaders’ Summit Nov. 30-Dec. 1. [This is the single biggest factor. Most do not realize how much trade negativity is reflected in current stock prices. My estimate is 10% in the overall market, and much more if you own the right stocks. Saying that it is important is quite different some “expecting” some policy shift].
- The Federal Reserve could signal that it might not raise interest rates as much as it currently projects. [Don’t hold your breath. It would take a real economic reversal at this point].
Mr. O’Hare sees two possible catalysts – a trade agreement with China and a Fed decision to slow the planned rate of rate hikes. He does not see either as especially likely, leaving the outlook uncertain.
[I continue to see trade negotiations as the most important catalyst. The tariff impact has been important throughout GOP states, including the Trump base. His key contributors and Congressional supporters will be feeling some pain. Some of the asserted Executive power is subject to legislative challenge. The real-time economics lesson is playing out. The intra-party pressures could not surface before the election, but I expect to see some signs of change].
There is a third possible catalyst – the breaking of the bogus recession narrative. This has a surprising grip, even among sophisticated investors. So many believe that Mr. Market wisely forecasts recessions and they should take cover. This is precisely backwards.
Urban Carmel, in an economic assessment packed with charts and data, concludes as follows:
Equity prices typically fall ahead of the next recession, but the macro indictors highlighted above weaken even earlier and help distinguish a 10% correction from an oncoming bear market. On balance, these indicators are not hinting at an imminent recession; new home sales is the only potential warning flag (its most recent peak was 11 months ago) but it has the longest lead time to the next recession of all the indicators (a recent post on this is here).
This is an excellent, comprehensive article. It addresses many of the skeptical points often raised by the “reliably bearish” pundits.
I have included most of my key ideas, but the Final Thought will focus on some scenarios for investor planning.
We follow some regular featured sources and the best other quant news from the week.
I have a rule for my investment clients. Think first about your risk. Only then should you consider possible rewards. I monitor many quantitative reports and highlight the best methods in this weekly update.
The Indicator Snapshot
Short-term trading conditions remain at high alert. The identification as “very bearish” is a reaction to volatility, not a prediciton of market movement. There is always a risk/reward balance to consider in your trading. When conditions are technically challenged, we watch trading positions even more closely. Each of our models has a specific exit strategy. The technical health rating may drop enough for a complete trading exit. It got close to that level twice in the last two months, but has now improved slightly.
Long-term trading has improved a notch on a technical basis. The big post-election rebound helped the technical picture – for us, and for others. Our methods did not “stop out” at the bottom, an important consideration. When your approach tells you to exit on a technical basis, a key question is when to get back in.
Fundamental analysis remains strongly bullish. Earnings are great, prices are lower, and there is even less competition from bonds. We reduce fundamental positions (as we did in 2011) when we get a warning from the recession or financial stress indicators, not merely as a reaction to technical signals.
The Featured Sources:
Bob Dieli: Business cycle analysis via the “C Score.
Brian Gilmartin: All things earnings, for the overall market as well as many individual companies.
RecessionAlert: Strong quantitative indicators for both economic and market analysis.
Doug Short and Jill Mislinski: Regular updating of an array of indicators. Great charts and analysis.
Nick Maggiulli explains how stock touts convince you of their prowess, finding winners week after week. Hint: There are some other letters to non-winners!
He then enlightens us with this valuable analysis of whether McRib is available. I recommend reading the full post before trading on these results.
Insight for Traders
Check out our weekly “Stock Exchange”. We combine links to important posts about trading, themes of current interest, and ideas from our trading models. This week we asked traders: Do you trade binary events? One inspiration for this was the election, of course, although it was not completely binary. Drug trials are another good example. As usual, we also shared advice by top trading experts and discussed some recent picks from our trading models. Our ringleader and editor, Blue Harbinger, provided fundamental counterpoint for the models, all of which are technically-based.
Insight for Investors
Investors should have a long-term horizon. They can often exploit trading volatility.
Best of the Week
If I had to pick a single most important source for investors to read this week it would be Ben Carlson’s valuable and delightful account of Things You See During Every Market Correction. It takes special skill to achieve the simultaneous goals of informing and entertaining. Ben provides an accurate list of what you can expect to hear from so many pundits. Here is one of my favorites (but choose your own):
…people will start making recession predictions even though the stock market is a poor predictor of recessions because no one remembers that when stocks are in the midst of a downfall. Eventually, someone will be right about this but most of the time these predictions are based on luck.
And then he has the list of clichés from professional investors on TV. Each is designed to portray the speaker as both informed and properly positioned for what just happened. Here are two of my favorites:
We see Dow 26,104.3487 as a key level of support. If it breaks that level, watch out below.
The technical damage to the stock market is much worse than investors realize.
Victor Niederhoffer’s site, Daily Speculations, is also a source of humor and inspiration. The commentators are quite good, but this one is “Anonymous.”
Peter Schiff was the first one where I realized there is an actual gloom-and-doom industry full of people who consistently predict disaster, and then every X years there is a big market downturn, and they can claim to have been right all along, and the cycle starts again.
Chuck Carnevale provides a cornucopia of twenty high-quality, attractive dividend growth stocks— diversified by sector. This is a great list of ideas. I am including the list to whet your appetite, but it is no substitute for reading the full post and watching the video.
Continuing my series on boosting your dividend yield, I described how the system could be used with General Mills (GIS). This is a good approach for those whose principal need is income.
Ray Merola provides a thorough analysis of Royal Dutch Shell (RDS.A) which he likes very much. This article is another good combination of an idea and a lesson on how to do your homework.
Can Celgene (CELG) rebound from the biotech sector doldrums? Stone Fox Capital sees a buy signal.
Delta Air Lines (DAL) reported earnings a week ago, encouraging D.M. Martins Research.
Volkswagen? The company with the Beetle and the emissions problems? Barron’s thinks the “stock is cheap and has lots of horsepower.”
Seeking Alpha Senior Editor Gil Weinreich’s Asset Allocation Daily is consistently both interesting and informative. Each week he highlights stories of interest for both advisors and investors. He also provides insightful commentary on important topics. Be prepared for something that cuts against the grain!
My favorite this week was his discussion over the supposed “oil bear market.” Most people are accepting this uncritically. Gil urges a deeper look and nudges us in that direction.
Abnormal Returns is an important daily source for all of us following investment news. I read it religiously. His Wednesday Personal Finance Post is especially helpful for individual investors. As always, this week there are several great choices. My favorite was Tony Isola’s analysis of the effect of inflation on retirement plans. This is not something you can ignore!
Watch out for…
Square (SQ). Stone Fox Capital is concerned about elevated valuation and “exploding” share counts.
Emerging markets. “Not yet” says Eric Basmajian. [Jeff: I agree with his conclusion, but I’d like to chat with him about some of the argument. For one thing, I don’t trust global PMIs].
Here are a few ideas about the election aftermath and near-term trading. In each case I have more confidence in what I expect to happen than in the market reaction.
Scenario One: Escalation of the Trump Investigation
This is a near-certainty. Democratic Committee Chairs will have subpoena and investigative power. Trump is threatening that use of these powers threatens policy compromise. Even if the Democratic leadership bought that argument (and they won’t) they cannot control all the individual Committee Chairs – all fiefdoms. In my class on legislative behavior I cited a source saying that it was nearly always right to refer to someone as “Mr. Chairman” (in those days they were nearly all men) because the number of subcommittees awarded a chairmanship to nearly everyone.
The Democrats will launch various investigations. If the Mueller probe is threatened, it will become even more aggressive.
- Cooperation on an infrastructure bill is unlikely.
- The President may need to reach out more to supporters already in office instead of voters.
Scenario Two: Death to Initiatives Requiring Cooperation
Democrats are unlikely to accede on any key proposal requiring Congressional support. This raises the implementation of the NAFTA replacement is a key worry. We might also see another round of debt-limit debates, with a possible bad ending. Expect the partisan roles to be reversed. The Trump-led GOP has not demonstrated a successful record of reaching across the aisle. That will now be essential on the budget and debt issues.
- A crisis of confidence like what we saw in 2011. The economy runs on confidence.
- A delay in the crucial North American trade agreements would affect many industries and have a ripple effect.
Scenario Three: Impeachment and/or Constitutional Crisis
This still seems unlikely, but Democrats will not accept firing of Mueller. Some Republicans will agree. I don’t want to get into what substance there is behind the various allegations but suppressing whatever it is will not work.
- Another type of crisis of confidence. The US would be weakened in global affairs and development of fresh domestic policies would halt.
- The specific effects would depend upon which policies – Iran, tariff, immigration, debt ceiling, etc. – had already been implemented.
- The market will not like uncertainty, but it should not rival 1974.
[There is a lot resting on your current investment decisions – risk, traps, assuring income, and seizing opportunity. Write to us at main at newarc dot com for my free papers on each of these topics. Readers may also want to take advantage of our no-obligation portfolio review offer. If you are doing a great job, we’ll tell you!]
I’m more worried about:
- The gradual effect of the trade war. As I have often noted, it is a real-time econ lesson. The effects are more obvious each week – lower growth, higher inflation.
- Additional crippling of compromise.
I’m less worried about:
- Earnings growth. It is a strong positive, supported by a strong economy.
- Debt issues. This is a staple complaint of those struggling to find something wrong. I have often said that this is an important problem, but not currently urgent. It must be addressed, but not right now. Read this piece from David Kotok.