Market Outlook | July 24, 2017

“Great events make me quiet and calm; it is only trifles that irritate my nerves.” Queen Victoria (1837-1901)

Tiring Reality

Stock prices have benefited from low and near-zero interest rates. Here’s the heart of the matter:  The chances of major changes to the “low interest rate” climate seem even less likely, which means more status-quo— which theoretically continues to justify further ownership of US stocks.  That’s been the case for a while and remains the consensus when considering the many bears that got either humiliated or crushed financially by this bull market. The interconnected link between low interest rates, tamed volatility and higher asset prices (stocks and real estate) is still intact, at least in the minds of the fatigued observes.

Mysterious Ending

The screams and shots of higher valuations did not get broad reception. The outrage for a “delayed” or “overdue” stock market collapse has angered pundits and stunned professionals while giving the Central Banks the last laugh, at least so far. There is not much of a compelling or unheard case to make sellers bail out of the well-established rally in an abrupt manner. In a way, all possibilities of a noteworthy stock market “crash,” have been heard by observers in some capacity.  The weak economic numbers from retail to auto to general mix data have not worried the bullish US stock markets.

For over two years, one could easily have made the case that the real economy is truly bleeding – look no further than the enthusiastic Bernie or Trump supporters, who have been fueled by outrage for massive establishment overhaul. Yet, the stock market in the US is on an island of its own. Regardless of weak wage growth, rapid consolidations and gridlocked government the stock market roared and is so far continuing to roar. The resilience of the S&P 500 Index and Nasdaq is still impressive, and, like all bull-markets when the momentum flows, it surely goes without a defined end.

All that said, the obsession of the next catalyst remains, and many speculate on what can derail the current trend. However, timing a demise of sorts is purely a guessing game. The obsession to nail a collapse, whether in late summer or early fall or near year-end, is all mysterious. Frankly, who knows! Too many bears have sounded the alarm before so even the shocking should not be surprising, but change usually surprises more than imagined. As summer is rapidly moving forward, the crisis prediction game lives on as the broad indexes continue to make new highs. Ah, the irony of all things, the more investors prepare for crisis, the more the bull market dances with joy. This dichotomy is mesmerizing; the suspense is tantalizing, though the anxiousness is not too thrilling for risk managers.

The Fading Dollar & Yields

The combination of a strong Euro, lower US interest rates and the lack of fiscal progress in DC have led to a weaker US Dollar. All the buildup and momentum to the Trump presidency and December rate hike are fading old news, and the Dollar is weaker. Frankly, large US companies in the S&P 500 index benefit even further from a weaker dollar. Here’s one reason:  

The weak dollar is bad news for American vacationers with plans to travel abroad. But it’s good news for America’s multinational companies because as the dollar declines, the sales and earnings generated abroad get a boost from the foreign currency translation. According to S&P Dow Jones Indices, S&P 500 (^GSPC) companies produce about 43% of their sales outside of the U.S” (Yahoo Finance, July 21, 2017).

The weaker dollar has not helped move Oil higher, as some may have expected. Yet, the bond markets, which never bought into the “recovering economy” narrative, are truly making another statement with US 10 year yields remaining below 2.50% after stalling earlier this spring. Despite short-term yields rising, it has been quite clear that growth remains unconvincing, and the suitability of growth seems even bleaker than most pundits would like to admit. The disconnect between roaring stocks and subdued, long-term interest rates is the grand unsolved puzzle of financial services. Roaring stocks and subdued rates are a reality that have coexisted – regardless of explanations the Federal Reserve is struggling to provide.

Article Quotes:

“The European Central Bank has reached the same spot the Federal Reserve reached four years ago. For financial markets on both sides of the Atlantic, it is an event that comes with consequences. In May 2013, then-Fed Chairman Ben Bernanke told Congress the central bank later that year might begin tapering its asset purchases—remarks that sent Treasury yields sharply higher, and ultimately forced the Fed to push back its plans. The ECB is keen not to relive the so-called taper tantrum. Following its meeting on Thursday, President Mario Draghi took care to not lay out any sort of timetable for when the central bank will start reducing purchases...As European credit markets adjust for an eventual ECB tightening, and as the ECB shadow rate rises, the euro may rise sharply against other currencies, including the dollar. In contrast to what happened during the Fed’s shadow rate rise, long-term bond yields also could move higher since there will be one less central bank draining supply. The world that investors find themselves in will look a lot different than the one they are in now.” (Wall Street Journal, July 23, 2017)

Mideast Rift, Natural Gas and future implications: “The ultimate agenda of the Saudi-led alliance is to deter Qatar from continuing its relationship with Iran, Saudi Arabia’s regional arch rival. But even the Guardian notes that “cutting ties to Iran would prove incredibly difficult,” as Iran and Qatar share a massive offshore natural gas field that supplies Qatar with much of its wealth. In fact, Iran immediately came to Qatar’s aid and began supplying the country with food after the Saudi-led sanctions created a shortage within the country. Shaking off Iran and Turkey —the two countries that have stood by Qatar’s side during this feud — is almost unthinkable. Qatar would be left without a single ally on either side of the Middle East region. Qatar was initially among a handful of countries, including Turkey and Saudi Arabia, that wanted to install a natural gas pipeline through Syria and into Europe. Instead, the Syrian government turned to Iran and Iraq to run a pipeline eastward and cut out the formerly mentioned countries completely. This is precisely why Qatar, Saudi Arabia, and Turkey have been among some of the heaviest backers of the Syrian opposition fighters. This pipeline dispute pitted the Sunni Gulf States against the Shia-dominated bloc of Iran, Iraq, and Syria (Syria’s president is from a minority denomination of the Shia sect of Islam). Although Iran and Qatar shared this lucrative gas field, they were directly at odds in regard to how the field should have been utilized.” (Centre for Research on Globalization, June 28, 2017)

Key Levels: (Prices as of Close: July 21, 2017)

S&P 500 Index [2,472.27] –   Since November 4, 2016 lows, the index has gone up nearly 18%.  In about 8+ months, the uptrend, without a noteworthy hiccup, has redefined the strength of the multi-year bull market.

Crude (Spot) [$45.77] –    This summer’s low of 42.05 from June 21^st and the November 14, 2016 low of $42.20 are on the radar of commodity observers as some sort of a guide. Since the mid-2014 commodity collapse, Crude has shown some life and revival, but the supply glut is a serious issue and surpassing $50 remains quite challenging.  

Gold [$1,248.55] – Stuck in a multi-month range between $1,200-$1,260.  Momentum has been lacking for a while and a catalyst is desperately needed.

DXY – US Dollar Index [93.85] –    Since the start of the year, the Dollar has remained in a downtrend, mainly since European interest rates have mildly recovered from near-zero rates. Plus, with inflation not being much of an issue and real economic growth not pleasing observers, aggressive rate hikes seem less plausible. Surely, the Trump Era has kicked off with what appears like a weak dollar policy, intentionally or unintentionally.     

     

US 10 Year Treasury Yields [2.23%] –From the March 14, 2017 peak of 2.62%, the long bond yields have lost momentum. Again, like the weaker dollar, participants are sensing the real economy is not that strong; rate hikes are less likely and the sugarcoated words of the Central Banks are less  and less believable.   

 

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