“When an empire fears for its survival, its prime has
passed.” (Martin
Dansky)
Further Chase
As another week ended, S&P 500 index and Nasdaq
posted another set of all-time highs. Now that begs a familiar question: If
the US labor market and other indicators suggest an improving economy, then why
has the Fed not raised rates?
Yes, the answer is not that simple, as many will say. However, the Fed's
message fails to match the institution's actions. First, is there actual growth
or is it just cosmetic deception? Second, what’s the definition of noteworthy
“growth”? The answer for both questions appears rather murky. Yet, constant
record highs drive up further demand for stocks, especially when investors
psychologically begin to feel that they’re missing out. History teaches
us that the urge to participate in order not to be “left-out” is dangerous at
the end of a cycle.
As participants decipher the Fed’s next move, one
thing is certain: The narrative of financial markets is heavily controlled by
the Central Banks from Japan to Europe to the US. The “narrative” is the story
line that analysts, financial media and large institutions believe as the
dominate theme. In the US, the Fed
mastered the art of controlling the news flow, influencing analyst
interpretation and institutional investors' mindsets. Of course, investing is
optional, but sentiment is too influenced. It is rather stunning how
independent thinking is less vibrant in today’s market and “centralized”
thinking is more prevalent. In other words, the Federal government’s
hands are too involved in the market, making few question if the “free-market”
is still in play. One must wonder if capitalism is still alive as bureaucratic
approaches expand in DC and the Eurozone.
“More government” is a theme that’s felt in regulatory
discussions as well as “bail-outs”. Now the Fed embodies that national power of
conducting the market orchestra. Thus, stocks are at an all-time high even when
bond markets have been skeptical of economic vibrancy.
Digesting Trickery
This year, from January to May, a few macro trends
stood out:
1.
The Dollar was weaker than in prior years.
2.
US 10 Year Treasury Yields decelerated sharply.
3.
Commodities firmed up until peaking in June.
4.
US stocks re-accelerated after bottoming in early February.
The first two trends are noteworthy themes that are
driving current momentum. Until Yields go higher, the status-quo remains in a
place in which a sideways economic pattern encourages further investing in
stocks, as other options are limited.
At the same time, the fist two trends don’t answer key questions that lay ahead: Is
a weaker dollar equivalent to a stimulus? Does a sub 2% yield in US 10 Year
Treasuries reflect the lack of convincing growth? What clues does this provide
regarding interest rate decisions?
It seems like a lower rate is a very established theme
and investors are used to it. In fact, even a “good” US labor result is not
going to whip out the skeptical bond market response. More guidance is awaited
from Central Banks, as most begin to believe that the CB’s have exhausted all
their options. As to how this all plays out is mysterious, but disregarding any
risk potential is as negligent as it gets.
Mysterious Risk
It is a puzzling time for asset managers who knowingly
do not want to take risks on “inflated” ideas. At the start of the year,
Emerging Markets and Commodity-related areas presented an attractive
risk/reward, and where mainly relatively cheap for investors. With negative to
zero yielding assets expanding and a political climate of extremism
resurfacing, there is a justified unease that’s felt, but not always reflected
in the financial market scoreboard. The mystery remains if US stocks are
peaking or under-owned. Yet, with liquid investments being overly saturated and
many investors sharing similar views, there is a risk that’s building. Part of
the herd mentality is driven by desperation for yields, while the other driver
is a Fed-led response. That being said, the action seems like a synchronized
melt-up, which can be followed up with a synchronized collapse. Quantifying
risk these days is challenging, thus many are left to trust their guts and
instincts.
Article Quotes:
“Plunging global interest rates have made borrowing
cheaper than ever. But instead of spending on aging roads, bridges and
buildings, many state and local governments are scaling back. New
government-bond issues have dropped to levels not seen in the past 20 years.
Municipal borrowers issued about $140 billion in bonds for new projects last
year. Adjusted for inflation, that is 53% lower than in 2006 and 21% lower than
in 1996. So far this year, municipalities have borrowed $95.1 billion, about
$10 billion more than at this time last year. Seven years after the recession
ended, voters and government officials remain scarred by the deep budget cuts
they endured at the height of the financial crisis and the sluggish revenue
growth that has constrained spending since then….Federal grants to state
and local governments for capital investment are expected to total less than
$68 billion in 2016, according to data from the Office of Management and
Budget. They hovered around $80 billion in the early part of the last
decade and surpassed $90 billion in the aftermath of the recession. Estimates
are in 2009 dollars.” (Wall Street Journal August 7, 2016)
“Despite rising defaults, the government hasn't
allowed any major firm to collapse for fear of triggering a crisis. Yet stresses
are rising in China's banking system, and with public debt a more serious
problem than official figures let on -- and still rising -- the government is
increasingly constrained. There are a number of steps Beijing could
take to address this mess. Deleveraging should be first. Restrictions on what
local governments can borrow simply encourage new and creative ways to hide
their debt, which actually makes them more difficult to rein in. More effective
-- if less politically appealing -- would be allowing zombie firms to collapse,
slowing the rate of investment and accepting slower GDP growth. Instead,
Beijing seems to be praying to the Keynesian multiplier, hoping that with yet
more stimulus it can grow its way out of its problems, much as it did a decade
ago. But the post-2000 period was a unique one, as China joined the World Trade
Organization, global growth pushed up export receipts and budgets magically
righted themselves. The government must accept that history is unlikely
to repeat itself.” (Bloomberg, August 7, 2016)
Key Levels: (Prices as of Close: August 5, 2016)
S&P 500 Index [2,161.74] – A continuation of all-time
highs. Like July, in which the index
hovered around 2150, which was an early sign of re-acceleration.
Crude (Spot) [$41.80] – After peaking at $51 on June 9th,
the commodity has dropped by nearly $10. It is attempting to stabilize at $40;
however, the downside pressure remains in place.
Gold [$1,340] – Appears to be stable around and above
$1,260.However, in the near-term, it is unclear if there is further
bullishness. There have been very early
signs of peaking at $1,360 range in the past 30 days.
DXY – US Dollar Index [96.19] – Since May, the Dollar has
strengthened. Interestingly, for the
majority of this year the Dollar declined and showcased some weakness.
US 10 Year Treasury Yields [1.58%] – Digging out of new recent lows 1.31%. Based
on recent performance, the bond markets have yet to confirm the strength of the
economy.
Dear Readers:
The positions and strategies discussed on MarketTakers
are offered for entertainment purposes only, and they are in no way intended to
serve as personal investing advice. Readers should not make any investment
decisions without first conducting their own, thorough due diligence. Readers
should assume that the editor holds a position in any securities discussed,
recommended or panned. While the information provided is obtained from sources
believed to be reliable, its accuracy or completeness cannot be guaranteed, nor
can this publication be, in any Publish Post, considered liable for the future
investment performance of any securities or strategies discussed.
