“If you wish to be a
success in the world, promise everything, deliver nothing.” (Napoleon)
Sentiment Examined
The fiscal optimism since
the November election, which was further accelerated by the State of the Union
address, is now noticeably stalling. A much anticipated pause coincides
with an already blazing hot stock market. Pundits and traders of all kinds are
pondering the following question: How much of the US stock market rally
since November is attributed to Trump’s victory versus the Fed’s influence via
low interest rates? It is hard to quantify, but for too long the
driver of asset prices (stocks and home prices) has been attributed to Central
banks. Yet, the contrast is stunning when viewing the bond markets. US 10-year
Treasury Yields still remains low, further illustrating the lack of conviction
in the real economy recovery. The very convenient narrative of higher
stocks and economic optimism now faces a major test in terms of confidence. Voters
and speculators would be quite distraught to hear that the status-quo has not
shifted much, GOP and Trump promises are hard to execute and the establishment
drains any outside ideas. An already explosive stock market, which
is dancing around record-highs, did not need much to find an excuse for a
sell-off. Now, the week ahead can serve as the penultimate test of
confidence.
Gridlock Reappears
Regardless, of the noise
and groans of a failed Healthcare policy attempt in Washington, there's
something uneasy about the broader markets. First, after a long run-up, a
breather or mild correction is inevitable. Does that mean a 20% or 5% stock
market correction? That remains quite a debate, but it is only natural to
retrace this as part of reevaluating the sentiment. Secondly, the Fed's recent
rate hike mixed with expectation of further rate-hikes seems fuzzy at best. If
higher rates are good or bad for Equity prices remains a debate. Third,
short-term focus on fiscal policies from the US to Europe can shape the current
sentiment.
The promises of lower taxes
and less regulation in the US is not as certain as some felt a few weeks ago,
after the healthcare debacle more doubts will resurface. Washington
will be busy in attempting to restore confidence in the GOP. To Trump & Co
to the Federal Reserve, massive PR efforts are already underway. If a stock
market drop and weakness in economic trends transpires, then, surely, angst can
fuel faster than predicted by risk takers few weeks ago. Already,
weakness in industrials, financials and small cap are creating some mild fears
that the Trump optimism is fading.
Conductors’ Script
The Federal Reserve
executed their plan of rate-hike after several speeches that attempted to
justify the much-anticipated decision. As to the symbolism of the rate hike,
the digestion process awaits, the suspense grows as well and the follow-through
is even more critical. Interestingly, the Fed has proven for
so many years that low interest rates can boost stock and home prices. A sudden
shift away from this age-old narrative can be turbulent, and Yellen’s legacy is
at risk. Not to mention, “promises” of rate-hikes in prior years did
not live up to the hype, so the failed promises apply to the Fed as much as
Congress and the White House. In a very simply way, investors will have to
confirm if the rate hikes were justified since the economy may not be as strong
as presented by members of the Central Banks. Again, the disconnect between the
real economy and financial markets most likely will persist. Or at least, it’ll
remain a puzzle that can be rewarding in deciphering.
The Eurozone is sending a
different message. On one end, the ECB is not quite ready to raise rates in the
short-term. On the other hand, the European economy is showing progress by
traditional measures, with a favorable PMI reading. Reconciling these two
factors will continue to be a theme in 2017. Interestingly, the Eurozone’s,
which has seen a wave of populism, anticipation of Brexit procedures and
ferocious debate on immigration is sending another message that masks the
chaotic issues.
“A gauge of euro-area
factory activity jumped to 56.2 in March from 55.4 in February and an
index of services surged to 56.5 from 55.5. Both are at the highest in
71 months and well above the key 50 level. The composite measures for
both the French and German economies unexpectedly improved, while in France,
selling prices rose for the first time since 2012.” (Bloomberg,
March 24, 2017)
Like the US, the Eurozone
is showing strength by some classic measures. Yet, skeptical crowds await given
real issues that have put pressure on establishment leaders. The mixed or
confusing state of affairs between daily life and financial markets still does
not tell a clear and simply story.
Article Quotes
“For all the talk of
downtown revitalization in places like Detroit, Pittsburgh, and Baltimore, the
numbers don’t lie. The U.S. Census bureau released population
estimates covering counties and metro areas today, and the picture is grim for
the post-industrial Midwest and Northeast. For example, the city of St.
Louis lost nearly 3,500 residents between July 2015 and 2016, representing a
1.1 percent population drop—the sharpest out of any city in the country, and a
much sharper local decline than in recent years. Chicago, too, saw its
long-term losses compound, with the largest numeric decline out of any metro
area: more than 21,000 people, or 0.4 percent of its population. A similar
story unfolded in Baltimore, which saw a rapid acceleration in population loss
from 2015 to 2016. Pittsburgh, Cleveland, Syracuse, Hartford, Buffalo,
Scranton, and Rochester also lost thousands. All told, according to Governing
magazine, the ‘146 most densely populated counties lost a total of 539,000
residents to other parts of the country over the 12-month period ending in
July, representing the largest decline in recent years.’” (Citylab,
March 23, 2017)
“Although it is not
inconceivable that the ECB may move away from negative rates before tapering,
our base case remains that they will step back from QE first. The most likely
process will involve a six month taper starting in January 2018 and ending by
June. We believe it is possible that they begin to raise interest rates whilst
tapering but that it is unlikely they do so beforehand. The market currently
expects the ECB to return to a positive base rate by around the end of next
year. It can
be argued the ECB should remove the most unconventional measure of monetary
policy first and it is a matter of opinion which policy is more unconventional. Most
developed market central banks have added QE to their basket of monetary policy
tools whilst only some have ventured into negative rate territory.
Furthermore although negative real rates are nothing new, negative nominal
rates are much harder for the consumer and general public to appreciate or even
understand.” (Business Insider, March 25, 2017)
Key Levels: (Prices as of Close: March 24, 2017)
S&P 500 Index [2,343.98] – Since the March 1st peak
of 2400.98, the S&P 500 index has retraced a bit. The slowing momentum is
clearly visible. Yet, the index remains above 50 and 200 day moving averages.
Crude (Spot) [$47.97] –Hovering around and
attempting to hold at $48.00. Additional supply cuts are awaited to move prices
higher, but the demand side is not robust, as showcased by recent
sharp retracement.
Gold [$1,247.50] – Since Mid-December, Gold
prices have accelerated. The next key hurdle to overcome is the 200 day moving
average ($1,260). Interestingly, in recent days, the commodity has inversely
traded with global equities, which is worth tracking.
DXY – US Dollar Index [99.62] –
Continues downtrend since the January 3rd peak of 103.82. The
dollar strength theme has slowed down most of this year, fizzling after the November
elections.
US 10 Year Treasury Yields [2.41%] – The
March 14, 2017 peak of 2.62% remains the annual peak, since then Yields have
retraced in recent trading days. To put things in perspective, on November 9,
2016 the 10-year was trading at 1.71%, illustrating some optimism which is also
staling a bit.
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