Market Outlook | August 7, 2017

Collective Stock Obsession

The Swiss Central Bank owned large cap tech stocks - such as Apple - demonstrate how the same Central Banks that drove a coordinated low interest rate environment are also profiting from rising stocks in their own portfolio. It's quite hilarious or logical that the promoters of “risk-taking” are also looking to put their capital to work in more liquid large cap US companies. Of course, weakening the Swiss Franc is one driver, as well. Importantly, this highlights a bigger theme in which so much capital is looking for shelter given the low interest rates. Frankly, investors of all kinds (small individuals or large Central banks) cannot get enough of allocating to tech stocks regardless of valuation to combat the ultra-low interest rate environment.

“For now, the Swiss National Bank holds on to it, and invests it around the world--but not in Switzerland. It held $2.7 billion in Apple Inc. stock, for instance, at the end of March. Some lawmakers and many economists think a sovereign-wealth fund created outside the SNB should invest a chunk at home.” (Wall Street Journal, August 2, 2017)

Amazingly, as if FANG (Facebook, Apple, Netflix & Google) were not already too explosive and in high demand, it’s quite interesting how the momentum chasing is accelerating. But when Central Banks are buying stocks there’s a screaming conflict of interest that’s quite evident. Not to mention the age-old saying of “Don’t fight the Fed” is even strengthened further, scaring bulls away and encouraging professional managers to go “all-in” with stocks. As being cautious is nearly laughed at, the unprecedented times of a Central Bank led bull market should be worrying even if it has led to further wealth creation. 

Interestingly, talking about Central Banks buying public securities: The Bank of Japan (BOJ) continues to own a significant portion of the Japanese’s stock market via ETFs. Frankly, this feels like a nationalization-like move, where the central government influence is quite major. The low polices combined with an expanding balance sheet, which leads to desperation to purchase liquid securities, has led to this reality of BOJ buying ETFs.

“The central bank [Bank of Japan] has been buying ETFs since 2010, but has been increasing its purchases as part of a package of unprecedented stimulus under Kuroda aimed at revitalizing the economy, virtually doubling its annual buying target to 6 trillion yen in July 2016. The BOJ owned about 71 percent of all shares in Japan-listed ETFs at the end of June, according to a Bloomberg analysis of data from the central bank and Japan’s Investment Trusts Association. That’s equivalent to about 2.5 percent of Japanese stock market capitalization.” (Bloomberg, July 20, 2017)

Waiting for Event

The long-awaited "event" for a major correction, a sell-off that's noticeable or a closer to 10% drop in S&P 500 Index is anxiously awaited.  Folks like Alliance Bernstein remind us that this cycle, without a notable sell-off, is quite stunning: "S&P 500 Index has suffered a 10% downturn every 33 weeks on average. Yet today it’s been more than 70 weeks since the last 10% correction" (AB Blog, July 24, 2017).

A desperately awaited correction is causing symptoms of greed for more risk taking, numbness to risk and dismissal of rational discipline. Is this waiting for the event that pays or preparing for the post-distress purchases and opportunities? Is the next blow-up going to felt in ETFs? Have short sellers bailed out after mainly false tops? Is there a point where the Central Bank loses credibility – all at once? Have the macro conflicts – from North Korea to the Qatar/Saudi rift – been ignored for too long? Who knows? Unclear and unanswerable questions remain for now.

However, between now and year-end can serve as an interesting and telling period that can unravel the multi-year bull cycle, or at least shed light on the most vital catalysts.

Uniformity’s Gain & Pain

The coordinated effort among Central Banks in western countries is resulting in further synchronization of financial markets. In addition to the ultra-low interest rates combined with non-visible inflation, there is a ferocious competition to weaken currencies and maintain the addictive low rate climate. At this stage, the mostly "deferred" correction is creating even more anxiety. Yet, without major changes to the status quo, the catalyst remains quite mysterious. It's undeniable that risk is mounting, even if not felt in sentiment and volatility measures. When Greek bonds trade below 6%, something is odd; just like the so-called robust US economy still sports a US 10-year yield below 2.5%. These abnormalities taken as the norm is usually a discomforting situation. Timing the market has proven to be an impossible task especially for professionals, as exhibited in hedge funds. Thus, skeptics are sidelined while bulls ride the wave and get blinded by the numbing simplicity of a rising market.

Key Levels: (Prices as of Close August 4, 2017)

S&P 500 Index [2,476.83] –From November 4 2016- July 27, 2017, the index went up 19.21%. Most outstandingly, the run-up was quite smooth without any major hick-up, which further highlights the near-death of volatility. Interestingly, the highs of July 27 2,484.83 remain the all-time high and near-term benchmark.

Crude (Spot) [$49.58] – Since February, early signs of fading Oil prices have remained. Surpassing $52 has proven to be quite difficult – mainly due to supply glut – as $50 remains a near-term challenge.      

Gold [$1,257.70] – Still attempting to recover from the second half price collapse of 2016. The 50-day moving average stands at $1,251.55, which mostly tells the story. March 2014 highs of $1,385.00 seems not easily attainable in the near-term.

DXY – US Dollar Index [93.54] –    From January 3 until August 4, 2017, the dollar index dropped by over 10%. The reversal from last year’s King Dollar to deceleration of a weaker Dollar defines the story of 2017, mostly. Lack of basis for a rate hike in the US and unconvincing economy strength are contributing to a convincingly lower Dollar.

US 10 Year Treasury Yields [2.26%] – Again, bond markets are suggesting that a rate hike or economic strength is not easily visible. June 14, 2017 lows of 2.12% are worth tracking in the foreseeable future.

  

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