Market Outlook | February 13, 2017

“Never become so much of an expert that you stop gaining expertise. View life as a continuous learning experience.” (Denis Waitley)

To grasp the current debate between bulls and bears, it helps to understand the mindset of investors and the power of perception. With the expanding list of unknowns regarding macro events, it's amazing to see that angst is mostly suppressed and anxiety is barely visible despite the murmurs of “bubble-like” traits within the financial service industry. The dominance of the status-quo is remarkable, and speculating the catalyst of a pending correction is suspenseful.

The Bulls Mindset

With stock markets roaring to all-time highs, the confidence of Bulls is hardly shaken given the ongoing resilience witnessed from past worries. Volatility indicators have been knocked down, which only signals that turbulence is not feared by most. Amazingly, VIX (Volatility index) being closer to 10 and near 10-year lows only feels like an exclamation point for those who've ridden the pre- and post-Trump stock rally. Political rifts and Federal Government posturing aside, there is a clear-cut agreement of a bull market. Even the Dow 20,000 mark was not needed to re-confirm the known bullish run, despite mixed real economy data that have puzzled experts and casual observers. 

Hubris or not, the status-quo of ultra-low interest rates ends up boosting the prices of stock and real estate prices. Plus, high-profile money managers have been skeptical for 2-3 years, and that public skepticism did not derail US stocks, either. That said, some participants may be asking: Why listen to "experts"? Not to mention, Hedge Funds, on average, have not thrilled investors and even endowments have struggled to outperform in this bullish environment. Anti-establishment Trump is wrestling with re-writing and redefining the well-established market narrative. Thus, the simplicity of this ongoing stock market run is centered on “stick with what's working” especially when fixed income, commodities or non-US investments have had their own shares of turbulence recently. The perception of risk is muted and the urgency of "not missing out" in the current rally plays into investor behavior and decisions. Also, passive investors who bought a basket of US stocks are quite pleased and even encouraging those who sat out to join the rally. This is how momentum is built and extended.

The Trump-Yellen relationship is in early stages, but participants are not completely convinced that rates will go much higher and the Dollar will get stronger. On both points, there is a lot to be seen from weak dollar policy to the Fed's search for a justifiable rate-hike. Even mysterious elements end up leading folks to choose US stocks as the best relative option. At the end of the day, Trump and Yellen may not mind higher stocks, which serves as a tool to boost both their egos, despite their fundamental policy and political differences. Even the Trump-Yellen politically charged disagreements have remained tamer than anticipated. Perhaps, the power of the bullish run feeds into old habits that are hard to change, and why change them? The burden of proof of a pending shift in sentiment is on the bearish crowd, at least, that’s the message from the markets. This week, Yellen will address and rate hike implications, and, surely, it will be digested and dissected carefully by pundits and investors.

The Bearish Perspective

To start, the bearish argument is made by some pointing to the stretch valuations or the natural need for a breather in share prices. Others have been citing the Central Bank induced low rate environment that has fueled an appreciation in asset prices, leading to more risk-taking and reckless actions.  At the same time, the low rate environment has a mixed impact on the real economy and ultimately highlights the disconnect between financial markets and small businesses.

Equally, there are questions of eroding fundamentals as highlighted in the retail sector and other areas feeling the effects of technology. NASDAQ high flyers such as Google, Facebook and Amazon have greatly benefited in the new economy, but other companies and business models have been tested or left behind. NASDAQ is flirting with all-time highs, but public and prove entities don't share the same joy.  There are questions about collective job and wealth creation:

“Some indicators of labor-market slack also increased, which should push away inflation concerns. The underemployment rate, which includes people stuck in part-time work who want a full-time job, rose to a three-month high of 9.4 percent.” (Bloomberg[BD1] , February 3, 2016 )

Simply, the Sanders and Trump rise reflected some of the struggles in the real economy for a much broader US population. Yet, the political banter and chatter for the greater need of policy driven stimulus is being received with concerns. There are real issues that are worrisome in current economic models, where the mismatch between skills and demand has left a challenging labor market.

The bearish view has been proven dead wrong at various junctions in recent years, as the multi-year price appreciation continues. Perhaps, investors are numb from hearing about too many warnings too often. Plus, the distant memories of 2000, 2008 and 2011 fail to spark a nervous breakdown. In other words, the known concerns aren’t going to sucker punch investors. More or less, it’s been backed in.  Lack of major defaults and crash-like events have been absent to alter the bullish narrative, but merely “we’re due” is what keeps the pessimists less active. Yet, the strange part of this muted turbulence is the Brexit and Trump results. Both historic outcomes have obviously reawakened concerns of globalization via the referendum on the political status-quo. Brexit and Trump results naturally suggest an outright demand for nationalism at all cost.  In a quick gut-check, the majority would say, Nationalism would inversely impact this market that’s been shaped by globalization in recent decades. However, the market isn't digesting these events and quantifying Brexit/Trump is not quite easy, thus worries are deferred for now. 

However, Greek bonds are rising again, the Eurozone crisis is being slowly revisited and prior concerns, such as status of Italian banks, cannot go away. In other words, the many unsolved issues from before leads the bears to worry. In fact, financial times put it best:

“Failure to tell truth to power lies beneath much of what is going wrong in Europe right now. It may not be the principal cause of the Greek debt crisis, which is now on its umpteenth iteration. But it is more than a mere contributing factor…. Europeans are not used to such bluntness. The Germans protested. The European Commission protested. So did the Greeks. They all want to keep up the fairy tale of Greek debt sustainability for a little while longer.” (Financial Times, February 12, 2017)

Reconciliation

The bull-bear debate has been one-sided for too long. Yes, the markets are typically biased on the bullish side, so some of this complacency is less surprising. The truth is not clear and bound to have a paradox. Yes, anxiety seems tame for now. One thing is clear, the catalyst of an all-0ut panic is difficult to calculate since the list of worries has mounted.

For now based on macro indicators, investors are very comfortable with the prevailing status-quo of low rates, contained inflation, and ongoing investor search for yield. Maybe there is a bigger message, regardless of Trump and Brexit, interest rate polices are what captures the financial markets. More and more, US stocks aren’t caught up in foreign policies or political clashes, but sensitivity to rates remains a critical reality.  As long as US 10 year yields fail to surpass 3%, inflation fears seem muted. Volatility spikes do not seem visible from the sharp uptick in rates. The last major spike in volatility was on August 28, 2015 when the VIX (Volatility index) reached 53.29 after bottoming at 10.88 on August 7, 2015.  (Worth noting: VIX today is around 10.85).  A three week stock market sell-off period in August 2015 was the last time that the markets truly panicked and rattled the bulls.  Perhaps, lower yields and failure of central banks to stimulate the real economy is what will give more legitimacy for the bearish argument.  In an amazing way, the fewer signs of economy revival, the friendlier environment for stocks.

Article Quotes

Hedge Fund Performance:

“Professional investors are more informed, more highly educated and more competitive than ever before. Yet they are all competing for a shrinking slice of the alpha pie. This is what author Michael Mauboussin calls the paradox of skill. Mauboussin says, ‘It's not that managers have gotten dumber. It's precisely the opposite. The average manager is more skillful than in past years. The paradox of skill says that when the outcome of an activity combines skill and luck, as skill improves, luck becomes more important in shaping results.’How many institutional investors bother to ask themselves if the investment managers they are investing with are lucky or truly exhibit skill?... The increased competition and larger capital base made it nearly impossible for these funds to keep up their outperformance.” (CNBC, February 7, 2017)

Ongoing Doubts:

“Inflation expectations, which surged immediately following the presidential election, have stalled in recent weeks. That suggests investors are questioning the economic growth the new administration hopes to deliver. The strong dollar has also prompted import prices to cool. And investors have recently dialed back expectations that the Federal Reserve will raise interest rates at least three times this year. A slew of economic data this week as well as Fed Chairwoman Janet Yellen’s semiannual testimony before Congress will likely reinforce these modest expectations The so-called Humphrey-Hawkins hearings, beginning Tuesday, will mark Ms. Yellen’s first appearance before lawmakers since Donald Trump was sworn in as president. Mr. Trump criticized her sharply during his campaign and GOP lawmakers have considered taking steps to subject the Fed to greater congressional scrutiny, topics which Ms. Yellen will undoubtedly face.” (The Wall Street Journal, February 12, 2017)

Key Levels: (Prices as of Close: February 10, 2017)

S&P 500 Index [2,316.10] – Record highs again. Since November 4, the index has rallied over 11%. Since breaking above 2,100, the index solidified an explosive bullish run.

Crude (Spot) [$53.86] – Trading between $50-54 in the past 2+ months. This is due to a combination of near-term stability and lack of catalysts at the current junction. The supply-demand dynamics that kept Crude below $50 are changing via OPEC agreement, but soft demand is still mysterious.

Gold [$1,228.30] – Strong case to be made that Gold has bottomed out around $1, 150.00. That said, visualizing a meaningful move requires optimism given the 4 year sideways pattern.

DXY – US Dollar Index [100.80] – Back to the common and familiar 100 range.  After peaking on January 3, 2017 at 103.82, the strong dollar trend has taken a breather. Since mid-2016, the dollar acceleration has been a major theme.

US 10 Year Treasury Yields [2.40%] – Confronting critical level. Interestingly in June 2015, Yields peaked at 2.49% and declined. Now, Yields are approaching similar levels. If the status-quo remains with rate-hike policies, surpassing beyond 2.50% seems challenging. A suspenseful period awaits for those seeking notable directional moves.

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.

Market Outlook | January 17, 2017

“A single event can awaken within us a stranger totally unknown to us. To live is to be slowly born.” (Antoine de Saint-Exupery 1900-1944)

Synchronized Elation

 Higher movements in US stocks, interest rates and oil prices not only materialized in recent months, but the optimism of this trend-continuation remained in place.  The collective expectation of better economic signs, mixed with some tangible data of slight improvement, begs the question: what really is the status of global growth? In the US, is labor data signaling some mild revival? Bank earnings were somewhat healthy, matching the trend of rising interest rates. And fiscal policies are expected to be implemented in a favorable way despite the mind-numbing DC gridlock. Even the Federal Reserve is feeling a bit optimistic about the economy, and relentless buyers continue to accumulate shares. Expectations, like the bullish spirits, remain very uplifted, which sets the bar too high.

The Dow 20,000 obsession is alive and well. Perhaps, that milestone serves more entertainment value for financial pundits than observers of the real economy. Apparently, the rising interest rates have not quite derailed the bullish market; even a mild slowdown in the US Dollar has not stopped the positive momentum. Yet, in grasping the events ahead it helps to identify the “known unknowns” versus the “unknown unknowns”. Turbulence is inevitable, but the critical catalyst is the mysterious element for risk managers.  In most cases, the way the script plays out is driven by surprises and which catalyst will set the tone.

 The KNOWN Unknowns

As Trump looks to enter the White House this Friday, the key US stock indexes are flirting with record highs. Through this headline chatter there are lingering issues that will be highly tracked and discussed.  Here are some of the known concerns that are familiar to participants:

 1. Brexit implementation - Financial markets digested the Brexit decision, but the details of the exit process will shed additional light while triggering more volatility. There is a posturing game between the European Union and UK leadership. The short-term volatility does not mean there won’t be long-term benefits, but predicting the theatrical elements appears genuinely difficult. Of course, the British Pound has felt the pain of Brexit and the turnaround for the currency is unclear. Inevitably,  expect more volatility as the twist and turns continue given pending negotiations. Trading ‎opportunities will present themselves and political agendas will spin the reality, which will create more deception.  In other words, the true impact of Brexit may not be straightforward.    

 2. Trump-GOP relationship - The 2016 election gave republicans the White House and Congress, so new regimes are expected to implement a new path. However, not everyone sees eye to eye on fiscal spending, lower taxes and less regulation. Thus, how the DC political climate shapes up will be essential for investors and business leaders. ‎ As inauguration looms this Friday, now the speculative policy-driven euphoria and financial speculations from supporters and antagonists will be tested a bit. Although, anxiousness can overtake investors and media observers alike, true judgment of policies impact on economic/ financial markets may require patience.

 3. Central Banks influence - In the year ahead, less reliance on the Central Banks (CB) and the continuation of rising rates is highly anticipated. Although Europe seems stuck in a near-zero climate, US rates are rising. Even in China short-term rates are rising, as well.  The link between populism and distaste for CBs might be a bigger theme than currently discussed. In other words, from Emerging Markets to Developed Markets, the doubt is mounting on the success of monetary policies. In fact, CB’s are bound to face collective scrutiny that can force them to be less influential on financial markets. That’s a fundamental shift from the last eight years and noteworthy for all investors.

 If the US economy is perceived to grow and get healthier, then the pace of rate hike and faith in central banks can be more telling. Already, interest rates are rising in the US, as some economic improvements are perceived and mixed optimism is brewing.   Rising rates inversely impacting stocks and real estate remains to be seen. Perhaps, that’s the risk for those that enjoyed the rise of asset prices due to ultra-low rates. If there is a crisis or bursting of a bubble, then a collective rage can point to the CB’s policy failures. Thus, Yellen & Co. must be a bit nervous as their reputation and institutions credibility is on the line.

‎4. China - There are many questions about Chinese growth and the impact of multiple stimulus efforts. But, the China-West relationship is rocky from political, military and trade tensions. ‎ In addition, the Trump-China relationship will be highly watched and publicized, but both sides will need to navigate closely to contain the outbursts. Surely, new trade policies or South China Sea rifts can shake markets a bit. From a fundamental point, how the earnings of global companies are impacted will be more of a direct and immediate interest to investors. So much of the global economy is intertwined into the topics that impact the Chinese market from Commodities to Interest rate policies. The fragility of the Chinese status-quo is surely a mega matter.

5. European Elections - As faith in globalization suffers severe scrutiny, the demand for Nationalism and re-defining sovereign values has grown. That said, Nationalistic parties are in more demand than recent years, which surely can change the completion of the EU as well as business sentiment. Like all topics above, the European election themes are interconnected to Macro factors. Brexit and Trump are reminders of this anti-establishment trend. Some may go that direction; others might go towards a dangerous path. Either way, that’s going to drive the perception of policy risk. No question, 2017 can embark on a new era and shift that might take a while to digest.

Accepting the Unknown

There are many factors that can alter the post-election euphoria and multi-year bull cycle. Surely, sensitivity and suspense have escalated in tandem because the global tension has yet to calm. Despite the posturing from the Federal Reserve, who kept rates and volatility low, there are real economy uncertainties, which will be confronted. The tame volatility that’s been witnessed for a while may provide the earliest hints. But even if volatility inches higher, the question will remain, how will the dust settle after near-term uncertainties? Eventually, noise is bound to resurface, and one or two events can drive the rest of the market narrative. All that said, it seems a bit wise to admit the unknown and not to overly claim it’s quantifiable. Perhaps that’s the healthy approach ahead of an action-packed period.

 Key Levels: (Prices as of Close: January 13, 2017)

S&P 500 Index [2,274.64] –A intra-day high of 2,282.10 was reached on January 6, 2017. This further emphasizes the record-high trading behavior that’s been common in recent years.

Crude (Spot) [$52.37]  –Appears trapped in a range between $50-54.  The commodities ability to stay above $50 appears noteworthy in the weeks ahead. 

Gold [$1,190.35] – Desperately attempts to bottom. The December 15, 2016 low of $1,126.95 is on the radar for both buyers and sellers. The multi-year, sluggish price action lingers especially with a move below $1,200.

DXY – US Dollar Index [101.18] – Strong dollar momentum is waning and slowing a bit. A breather here is be expected after a strong run since May 2016.    

US 10 Year Treasury Yields [2.39%] –   Since July 2016, the turnaround from the low of 1. 31%, has set the tone for a new trend. The re-acceleration from November lows is even more stunning, at least in the near-term.

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.

Market Outlook | January 3, 2017

“Status quo, you know, that is Latin for ''the mess we're in.” Ronald Regan (1911-2004)

For 2017, specifically the first quarter, there are three themes that can spark notable movements:  First, the perception of Central Banks and their effectiveness to reignite the real economy. Second, developments in China from economy to foreign policy to commodity consumption. And third, Eurozone changes from Brexit-like events to elections that can shape the political future of the continent and the Euro.  These three global topics are surely on the radar. The nuances serve as a potential catalyst to spark market movements.

Status-quo Wobbling

There is much anticipation and suspense regarding the potential derailing of the current market trend. With so much attention circulating around Trump’s regime and the Brexit fallout, the age-old discussions about interest rates and the power of the Federal Reserve remains a critical topic for risk takers of all kinds. At some point, Yellen will have to confront the truth about the effectiveness of low interest rate policies. The Yellen-Trump relationship, which was reported as hostile pre-election, tamed recently following the December rate hikes.  This relationship requires some clarity, but preserving the status-quo of low interest rates is not easy and seems less welcomed moving ahead.

More than the Yellen-Trump relationship, the limited tools of central banks mixed with the unsustainable, ultra-low rate climate may disrupt the familiar pattern of higher stocks and higher real estate prices. However, with the real economy / global growth not being overly thrilling, predicting sustainable rate hikes is a dangerous game. Not to mention, fiscal spending via infrastructure spending, lower taxes and reduced regulation would provide justified optimism, but a follow-through is desperately awaited. Patience is required before making a huge trend declaration.

Obviously, the low interest rate phenomenon is a global theme that’s beyond Yellen & CO. Central banks have struggled to stimulate economies while raising inflation expectation. To continue would be quite difficult. So far, it has been a big disappointment and desired economic results are still awaited. In fact, this is where the Trump victory, Brexit and more Populism comes in to play since the perception of economic well-being is under severe scrutiny. This expanding populist movement has rattled central banks, who are confronting a reality of anti-establishment sentiment, loss of credibility and lack of creative answers to justify an ultra-low interest rate environment:

“Critics of central bank actions were emboldened by a still sluggish global economy even after years of unprecedented monetary stimulus” (Bloomberg, December 15, 2016).

Near-term Suspense

Investors, recalling last January, are quite nervous going into 2017. Not to mention, a multi-year bullish market mixed with increasing optimism, which logically forces one to think cautiously. “Uncertainty” is discussed from a political level as much as economic, so no surprise. Since mid-year, the remarkable turnaround in US 10 Year Yields tells a critical story. 1.31% to 2.44% may not sound like a big deal, but it is a sharp turn to higher yields. A strong Dollar, higher Treasury yields and weaker Gold prices have defined the last six months. In the first few months of 2017, these macro indicators are worth tracking for clues if last quarter was a prelude of what is to come. However, if last quarter was a bit of an outlier and if the status-quo has not changed, then the suspense is deferred further without clear answers.  

Mysterious China

A concrete trend in China is hard to decipher given government data. Real estate bubbles, overheating economy and slowing growth targets have been well documented. At the same time, the Chinese Stock Market (Based on FXI) is far removed from all-time highs, which tells only part of the story. It’s been over nine years since Chinese stocks hit all-time highs. In this same period, US broad indexes are reaching record highs. In addition, the Trump-China relationship is a wildcard. A few mild spats can trigger concerns, ranging from North Korea to currency manipulation among other antics. The sentiment can shift rapidly.

All that said, the Yuan weakening is a fact that’s visible on many fronts. “The yuan CNY=CFXS, which has reached an 8-1/2 year low, was on course to shed nearly 7 percent against the dollar in 2016” (Reuters, December 30, 2016). Some may be tempted to bet on a recovery, but the fundamental weakness in China is evident.

Also, capital outflow is plaguing the Chinese policymakers. In fact, Bitcoin’s (the digital currency) recent appreciation is attributed to ongoing outflow from China given recent capital controls.  Thus, confidence in China is waning, and policy makers have attempted various stimulus efforts. However, since the perception of “China” is quite vital in the business community as well as commodities, tracking the developments for a potential macro catalyst is vital. In addition, the China vs. US rift is not farfetched, but estimating how and when that plays out is even harder to tell. One thing is certain,  the importance of China in political, economic and military related matters is crucial. This makes the events there much more suspenseful and meaningful in the first quarter.

Eurozone Theatrics

The post-Brexit world has sparked all kinds of emotions, debates and doubt about the future.  The Italian Banks,  the Greek debt crisis and Britain’s negotiation with both are enough for concerns. Yet, since concerns have become the norm, it may have made market participants somewhat numb or unmoved by ongoing shocks. In a strange way, an upside surprise in the Eurozone might materialize since the beaten up themes are known. In other words, the risk-reward may appeal to some daring few seeking a remarkable turnaround.  However, the bureaucratic process for change in the Eurozone will be lengthy and the “breaking up” of the union has too many scenarios to ponder. What’s hard to ignore is the populist trend that’s building (as globalist sentiments continue to crumble from US to UK to France) in Europe with more elections coming up. This is another element that’s brewing to re-shape the European status-quo.

If independence and nationalism are preferred, then the status-quo can get rattled again. Although, the consequence might take time to play out. All that said, the tone, actions and leadership of the European Central Bank (ECB) remains quite intriguing. If the ECB, which has mainly created the non-event status quo move, eventually makes a drastic statement, then a new trend can spark with increased volatility. Like all developed markets, investor’s obsession begins and ends with interest rates.  That surely will reflect in the ongoing weak Euro and contentious attitude between European leaders. Stakes are much higher now and participants are asking shrewder questions, which makes each week and tick critical.

Key Levels: (Prices as of Close: December 23, 2016)

S&P 500 Index [2,238.83] – For 2016, the index was up 9.5% . The last two months were explosive as December 13 marked all-time highs (2,277.53).  Mild pullbacks seem inevitable, at least closer to 2, 200.

Crude (Spot) [$53.72] –  In the last six months, buyers showed confidence around $40 on several occasions. In the near-term, staying above $52 is the critical junction.

Gold [$1145.90] – During the past year, gold fluctuated with July 6 highs of $1,366.25 to December 15 lows of $1, 126.95. In the second half of 2016, gold was down over a 17%.

DXY – US Dollar Index [102.21] – During the last half of 2016, a strong Dollar theme remained in place. Since 2011, when the Dollar bottomed, the trend has been positive. For some perspective, July 2001 highs of 121.02 serve as the milestone to keep in mind.      

US 10 Year Treasury Yields [2.44%] – Along with a stronger dollar in the second half of the year, yields went much higher.  2.50% is a key resistance level to watch as breaking above 3% has been difficult in the last six years.

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.

Market Outlook | December 27, 2016

“To expect defeat is nine-tenths of defeat itself.” (Henry Louis Mencken)

The Fruits of Surprises

Typically, it is critical to be a visionary in financial markets when looking to capitalize on the limited opportunities. Now, being a visionary and nimble investor is even more important. The broad US Stock Markets were dripping lower ahead of the elections, but since the election results, the S&P 500 index has exploded. The same cheerfulness applies to Crude prices, which were already was bottoming ahead of the OPEC supply-cut announcement. As if 2016 did not remind us of surprises of all kinds, it is worth reiterating as a constant reminder to fathom the unfathomable in order to pursue fruitful returns. In saturated liquid markets, with more sophisticated technology, rapid processing of information is paramount.  In which global participants with capital are eager for returns, there is not much time to hesitate when an opportunity opens up. Investors are faced with the choice of chasing returns or being anxious enough to stay on the sideline.

Gauging Expectations

The anticipation of a Trump-era brings some hope and, in some ways, anticipated relief from the current administration approach and financial market status-quo. The relief from a Trump victory is the hope of departing a defeatist attitude towards business and regulation and creating a more robust attitude and actions towards growth. Beyond the hype and political posturing, there is demand for positive sentiment regarding the real economy. If the real economy fails to deliver and recession-like symptoms begin to circulate, then the sour turn from optimism to rapid panic is likely. One factor that’s noteworthy is business owners looking to sell their business (more on this below).  Again, financial markets might be super-thrilled about Trump, but small businesses were unhappy with the establishment and still skeptical regarding real growth.

In terms of financial markets, that's presumed to mean a shift away from near zero percent interest rates and growing emphasis on fiscal policy. The built-in expectations for Trump’s administration includes:  more infrastructure spending, repatriation, various tax cuts, lower regulations, less influence by central banks leading to higher rates, a favorable climate for energy and promotion of Brexit like outcomes in Europe. Already, these factors are more or less priced in and hardly viewed as shocks, which present a challenge for value investors seeking bargains. However, a breather is needed after a run like this, not just from a correction point of view but also from an expectation perspective. There is the dark side of the market cycle that can derail euphoric responses. When expectations are too high and valuations are high as well, then it's even harder to visualize continuation without turbulence. Surely, that's in the back of the minds of money managers grappling with the paradoxical set-up.  

Emotional Test

Participants, in a macro-managing manner, are attempting to script the Trump narrative with an accurate play by play. Inherently, that'll lead to disappointment (in domestic and foreign policy), as many factors can shape the decision of a new coming president and congress, not to mention the multiple elections that wait in Europe. If surprises are "game-changing" events, then why have high conviction on the potential script that will emerge? The mental test for participants is to shake the age-old complacency of low interest rates, low volatility and higher stock prices toward  more fluid and vibrant responses to a market that's both anxious and euphoric. The swing from anxiousness, due to many unforeseeable events, versus euphoric responses driven by hope can blur the thinking process for market participants.

The Trump-Putin alliance, a dislike of some, is viewed as positive for the energy sector to go along with OPEC’s moves. Further election results that favor nationalism in Europe are expected to further weaken European Union, which already is trying to manage multiple crises.  Similarly, the UK and Eurozone are set to face pressure regarding maintaining low interest rates; thus stirring optimism will remain challenging.  The ongoing banking crisis in Europe will stir further concern as finding stability appears difficult for now; that includes a more vulnerable Euro.  All that said, there are many market events that will test investors’ nerves. Reacting wisely to the unexpected might be the ultimate reward in 2017.

Article Quotes:

“Small business listings reach record high: Sellers continue to supply the market with a record number of listings, as the supply rose 5.1 percent from Q3 of 2015. The surge in listings could be due to a sense of urgency felt by those small business owners that are hesitant about sale prospects in 2017. According to BizBuySell’s recent confidence survey of buyers and sellers, less than half of sellers feel they could hold out for a year and receive a higher price for their business. Retiring baby boomers, in particular, are likely more motivated to sell now rather than drag the process out or risk having to wait out another economic downturn. With both buyers and sellers ready to act now, transactions are also taking place at a faster rate. A business sold in Q3 was on the market for an average of 171 days, a 4.5 percent decrease from 179 days in Q3 of 2015. This marks a steady drop from Q1 of this year, when the average days on market was 188 days.” (American City Business Journals, December 23, 2016)

“U.S. energy companies added oil rigs for an eighth week in a row, extending a seven-month drilling recovery as crude prices remained near a 17-month high. Drillers added 13 oil rigs in the week to Dec. 23, bringing the total count up to 523, the most since December 2015, but still below the 538 rigs seen a year ago, energy services firm Baker Hughes Inc said on Friday. That was the third straight week of double-digit rig increases, a sign the industry has accelerated spending on new production now that crude prices have mostly held over $50 a barrel for a fourth week….  Analysts at U.S. financial services firm Cowen & Co said in a note this week that its capital expenditure tracking showed 23 exploration and production (E&P) companies planned to increase spending by an average of 35 percent in 2017 over 2016.” (Reuters, December 23, 2016)

Key Levels: (Prices as of Close: December 23, 2016)

S&P 500 Index [2,263.79] –     From November 4 lows of 2,083 to the highs of December 13 (2277.53), the index has jumped over 9%. Post election rally is resounding and possibly neutralizing around current levels.

Crude (Spot) [$53.02] –    From November 14 lows of $42 to December 12 highs of $54.51,  a near 30% rally in less than a month demonstrates not only the OPEC deal but a shift in sentiment.

Gold [$1131.35] –    A downtrend remains in place. Since July 8, 2016 the commodity has dropped over 17%.  

DXY – US Dollar Index [103.01] –     The strength remains in place at a multi-year high. The last 3 years have solidified the Dollar not only as a strong currency but in high demand for circulation.

US 10 Year Treasury Yields [2.53%] – After peaking at a 2.61 intra-day high on December 13, 2016, yields are stabilizing between 2.40-2.60%.  

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.

Market Outlook | December 19, 2016

‘There's a certain amount of disorder that has to be reorganized.’ (William S. Paley)

Impactful Change

The bull market that was well established in US stocks accelerated further after a Trump victory. The Trump-rally is mostly driven by optimism circulating in the business world and anticipation of less regulation and even possibly lower taxes. Unlike the last few years, the stock market rally was driven by a coordinated low interest rate environment (i.e QE) that boosted asset prices while failing to meaningfully stimulate the real economy. Surely, if the last eight years showcased economic strength (as witnessed in stocks and real estate) then events like Brexit and Trump victory would have been very unlikely.

It’s quite evident, recently, that “a bullish stock market does not quite mean a strong real economy” will be the legacy of Obama (and other European leaders). And the newfound energy of Trump is gearing to revive the meek economy that’s been wobbling and barely above water.  This past year has shown, the centralization of key decisions, such as interest rates or government policies (at EU, UN and Central Banks), have driven local Westerners to long for and demand independence and radical change.

Basically, the unsettled feeling towards the establishment and status-quo can be reflected in the market dynamics soon enough. Yes – even if stocks roared with interest rates being low, the middle class felt betrayed in the US and UK, and even global growth was not as vibrant like in the early to mid 200o’s. When all is said all and done, Yellen struggled to raise rates during the last three years because the real economy growth (via wage growth and inflation) was not quite convincing. It is critical to keep in mind that inflation expectations are looking upward for now based on short-term data. However, once the Trump-mania hype settles in and his new regime takes over the White House and congress, the true test awaits. Markets were desperate for new catalysts and even more desperate to break out of the over-reliance on the near-zero interest rate policies.

 Shifting Script

The major disconnect between the real economy and financial markets led by US stocks has been quite alarming for a long while. Certainly, this misalignment serves as one of many key themes in recent years. The Trump victory has created the sense that reliance on Fed-driven low interest rates and big government is going to shift. The Yellen-Trump relationship has been awaited with great excitement and anxiety since Trump displayed an openly anti-Federal Reserve ideology. Interestingly, Yellen & Co have postured about  interest rate hikes on many occasions, only to pull the trigger 12 months after the last rate hike in December 2015. Thus, higher interest rates and a strong Dollar have been brewing silently, even before the election. Now, with protectionist policies touted by Trump, the Dollar looks stronger with domestic companies looking to benefit greatly, especially in Small Cap companies. At the same time, unease about globalization hurts some EM currencies, too.

The Trump victory provided a stimulus in the perception of the real economy. Maybe, this is positioned to replace the ‘stimuli’ from the low interest rate games. However, the Federal Reserve narrative and credibility benefits from rising inflation expectations as they took a ‘hawkish’ stance, which was illustrated this last week. More interest rate hikes are expected, albeit a grand promise for now, but that’s nothing new—We have heard many unfulfilled Fed promises before.

The US 10 year Treasury Yields closed near 2.60%, sending another wake-up call regarding interest rate trends. The new GOP congress and Trump are expected to create a business friendly environment. Thus, justifying a rate hike for Yellen seemed a bit easier than before, and having interest rates rise enables Trump to ride some ‘hope’ into 2017. For risk managers, the suspense has heightened. The bull market is aging further by the day and the narrative is being reorganized. The paradigm is shifting and so is the risk/reward that many got accustomed to in a very complacent manner.  Thus, there is a lot to digest and adjust ahead, and surprises are plenty for money managers of all kinds. 

Search for Bargains

As the surge in US stocks continues, curiosity awaits about early 2017 market behavior. Are stocks overvalued? Is energy the place to be given favorable policies? Are interest rates in the US set to rise further? Is the Fed’s role going to diminish and change dramatically?

First and foremost, a breather seems long awaited in US markets from stocks to bond sell-offs. Clearly, the strong run has been too impressive and a correction is long awaited.  Secondly, a follow-through is needed for the stronger Dollar, higher yields and higher stock that’s been witnessed after the US election. Finally, new trends are inevitably set to develop from energy to financial services, especially in areas that have underperformed in recent years. That will offer great upside benefits, but with policy changes playing out in Europe and Trump-GOP dynamics being a wildcard, there are a lot of unknowns.

Amazingly, the Nasdaq index is up over 300% since March 2009 lows as tech related areas have shown notable strength since the 2008 crisis.  Meanwhile looking ahead, bargains maybe found in Energy, Emerging Markets and US-based sectors.  The market has been rewarding shares broadly, but soon winners and losers will be clearly defined. Thus, the short-term suspense can create longer-term opportunities. Perhaps, the focused investor with high conviction may find fruitful returns even if the suspense expands.

Article Quotes:

“Like all bonds world-wide, Chinese bonds are under pressure from the U.S. Federal Reserve’s plans for faster interest-rate increases than some expected. China may guide its own rates higher to prevent the Chinese currency from weakening faster against the dollar, a scenario that would further squeeze Chinese borrowers in need of cheap finance. China’s total debt surged to around $27 trillion this year, or 260% of gross domestic product, compared with 154% in 2008 at the start of a stimulus program to offset the financial crisis. It is continuing to grow at more than twice the pace of the economy…. The clearest sign that many Chinese are worried is the amount of money flowing out of China despite strict measures to stop it. China’s foreign reserves have dropped by 21% to $3.05 trillion in the past two years. But since much of the financial system is lightly regulated, the true amount of leverage in the system is unknown. Market experts say asset managers routinely use bonds as collateral to buy more bonds, repeating the process many times over.” (Wall Street Journal, December 18, 2016)

“There is a fairly broad but cautious agreement that QE has stimulated demand. The causality is hard to prove, but since the launch of QE growth has picked up in both of its main aspects: investment and consumption. Studies document the positive impact on asset prices and a reduction in long term borrowing costs. The bigger question is when we should begin to exit the programme. Some argue that the time is now. For example, the German Council of Economic Advisors agree that QE has managed to stimulate demand, but feel that the ‘exceptionally loose monetary policy by the European Central Bank is no longer appropriate.’ Another line of complaint against QE is that it squeezes the profitability of banks. This is a valid concern, because weak profitability encourages banks to tighten the supply of credit to the real economy. Improving access to credit was the very purpose of the ECB’s QE programme, so it would be counterproductive to carry on if the programme is hurting bank profits.” (Bruegel, December 8, 2016)

Key Levels: (Prices as of Close: November 25, 2016)

S&P 500 Index [2,258.07] –   Over a 9% rally since November 4^th lows of (2,083.79).  The common theme of all-time highs continues.

Crude (Spot) [$51.90] –    Facing resistance at $52; however, the uptrend remains intact. The last several months have displayed stabilization around $45-50. Even before the OPEC deal, Crude rallied from $26 to $50; something to keep in mind given several narratives.

Gold [$1,173.50] –   Steady decline since July 8^th peak. It appears that Gold is even more inversely correlated to the Dollar strength. Even a recent commodity rally has not awoken Gold prices for revival.

DXY – US Dollar Index [102.95] –   Explosive forth quarter. Further strength in the Dollar showcases a continuation of the uptrend established in 2014. Relative to other currencies and Gold, the Dollar remains appealing.

US 10 Year Treasury Yields [2.59%] – A rate hike combined with increasing inflation expectations has continued the yield rise. A remarkable turnaround since July 6, 2016 lows of 1.31%.

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.