“The investor’s chief problem, and his worst enemy, is likely to be himself. In the end, how your investments behave is much less important than how you behave.” – Benjamin Graham
June is in the books and the first half of the year to be a good one for the bulls. In fact investors just witnessed the best June for the S&P since 1955. That is an astonishing change after the Sell in May crowd controlled the air waves. The latest market high was the 210th for the S&P 500 since 2013. Every one of them was called THE top.
Trade speculation, and let’s be honest it’s all speculation, dominated the headlines and trading this week. The major indices entered the week coming off their best weekly performance in over two years. No surprise, stocks moved sideways after that performance as investors focused their attention on to what may develop at the G20 meeting this weekend. The S&P paused and finished flat for the week, and is now up 17+% for the year.
On the global scene, the U.S. is pretty much alone when it comes to new highs for the country stock market ETFs. Russia (RSX) and Switzerland (EWL) are the only other country ETFs that made new 52-week highs when the S&P did the same. Most of them haven’t made new highs since 2018.
However, there are other positives that are present. Despite all the issues in Europe, their STOXX 600 is up 13+% for the year. MSCI Emerging Markets ETF (EEM) and MSCI all world (ex USA) ETF (CWI), have broken out of downtrends that were in place in 2018 and formed either sideways or uptrends over the last six months. We have seen the U.S. dollar weaken lately, and if that trend continues, it will be a tailwind for emerging markets.
Similar to U.S. markets, Chinese “A” shares (ASHR) traded sideways as well after coming off one of its best weeks in a while.
The talk now is about how the stock market has gone nowhere in the last 18 months. Once an investor realizes how the market actually “works”, in this case a secular bull market, they wouldn’t be thinking twice about that issue now. However, it’s the preferred commentary of those that are looking for reasons for stocks to fall.
In a secular bull market, we often see huge runs where new high after new high is recorded. The period after that occurs after typically sees the overall stock market take a breather. It does so to work off the excess, shakes out the weak hands, and dispatches the nervous nellies before any attempt is made to take prices higher.
The consolidation periods keep the stock market from getting too overvalued or in danger of becoming a bubble. We know how stocks can react after a stall, they can of course head lower. However, there is also a good chance that they can go higher, especially when the primary trend is bullish. We also know how stocks react after a bubble is burst, they only go one way, down.
These pauses are normal throughout a bull market. The same argument of the market has gone nowhere that we hear today were brought forth in 2016. Prior to the sideways action in 2015/2016 the S&P gained 56%. Fast forward to the present, and we note that prior to this present sideways action that some say is a warning sign, the S&P recorded a gain of 37%.
I continue to subscribe to the notion that these are well deserved consolidations in markets after outsized rallies. What is always lost in these types of discussions, the primary trend structurally remains higher.
No one knows for sure whether the stock market rally continues onward and upward, we simply use ALL of the data to come up with probabilities. Based on that assessment an investor should determine the probability of the market moving higher or lower. We realize how human beings will interpret the same data and come up with different answers. Each can decide on the weight of the evidence, and determine how they should be positioned now. I have clearly stated my assessment of the facts all year.
Scott Grannis shares his views on the condition of the U.S. household. His commentary bolsters my view that the consumer is in good shape.
The skeptics want to make a point that household debt is at a record level. That is true, but this is what matters.
Chart courtesy of Urban Carmel. Data source: Federal Reserve database.
Household debt as a percent of personal income is at a 40-year low. This confirms the average household balance sheet is in great shape.
Q1 GDP growth was left unrevised at the 3.1% clip in the second look and 3.2% in the Advance report. And it compares to 2.2% in Q4.
Dallas Fed manufacturing index dropped another 6.8 points to -12.1 in June, well below expectations, after falling 7.3 points to -5.3 in May. This is the lowest since the -17.1 in June 2016. However, it was as weak as -34.8 in January 2016 (which was the worst since early 2009).
Richmond Fed manufacturing index dipped 2 points to back to 3 in June following the 2 point gain to 5 in May. The index has bounced back modestly from the weakness over the turn of the year, though it is well below the 21 registered last June. It was as high as 29 in September.
Kansas City Fed manufacturing index was 0 in June, slightly lower than 4 in May and 5 in April. The composite index is an average of the production, new orders, employment, supplier delivery time, and raw materials inventory indexes.
Chicago PMI dropped 4.5 points to 49.7 in June after rising 1.6 points to 54.2 in May. This is much weaker than expected and is the first time in contractionary territory since the 49.9 print from January 2017. The index was at 63.8 a year ago and was as high as 66.5 in October 2017.
May Chicago National Activity index rose 0.43 points to -0.05 after falling 0.50 points to -0.48 in April (revised from -0.45), with March revised to 0.02 (from 0.05). The index has been bouncing either side of unchanged since later last year.
June consumer confidence dropped 9.8 points to 121.5, considerably weaker than expected, after rising 2.1 points to 13.3 in May (revised from 134.1). This is now the lowest pace since September 2017, and has been as high as 137.9 in October, an 18-year peak. It was at 127.10 a year ago.
Final consumer sentiment for June came in at 98.2 for the University of Michigan survey. That’s a little better than the 97.9 preliminary print, but it is down 1.8 points versus May’s 100.0 (which was an eight-month high). The index is back where it was last June.
Personal income rose 0.5% in May, with spending up 0.4%, a little better than analysts expected. April’s 0.5% jump in income was not revised, but the 0.3% increase in spending was revised up to 0.6%. Wages and salaries rose 0.2% versus 0.3% previously. Disposable income was up 0.5%, as it was in April (revised from 0.4%).
New home sales report sharply undershot estimates with a 7.8% May sales drop to a 626k pace after net downward revisions in March and April, as analysts further unwound the outsized Q1 surge. The April sales rate was lifted slightly to 679k from 673k, while the April figure was lowered to 705k from 723k, leaving that pace back below the 10-year high of 715k in November of 2017.
Pending home sales jumped 1.1% to 105.4 in May after the 1.5% decline in April to 104.3 (revised from 104.3). This is just off the 105.9 in March that was the best since July 2018 (also 105.9), with the gain supported by the drop in mortgage rates.
Lawrence Yun, NAR chief economist:
“Lower than usual mortgage rates have led to the increase in pending sales for May. Rates of 4% and, in some cases even lower, create extremely attractive conditions for consumers. Buyers, for good reason, are anxious to purchase and lock in at these rates.”
“Consumer confidence about home buying has risen. The Federal Reserve may cut interest rates one more time this year, but there is no guarantee mortgage rates will fall from these already historically low points. Job creation and a rise in inventory will nonetheless drive more buyers to enter the market.”
“While contract signings and mortgage applications have increased, there is still a great need for more inventory. Home builders have not ramped up construction to the extent that is needed,. Homes are selling swiftly, and more construction will help keep home prices manageable and thereby allow more middle-class families to attain ownership opportunities.”
German IFO came in as expected with a reading of 97.4. That is down from the prior result of 97.9, and the lowest reading of the year.
German GfK consumer confidence for June was announced, with the reading softening to the weakest level since April of 2017, missing expectations. A different story in France, as confidence is now the highest since April of last year after exploding higher by 16% YTD. French manufacturing data has generally looked firmer than Germany as well.
Japan Industrial Production crushed estimates, rising 2.3% month over month.
Mexico’s INEGI released its monthly economic activity index for April. On a seasonally adjusted basis, activity saw a sequential improvement of 0.12% month over month and 0.26% year over year.
Micron (MU) is the poster child for all of the issues that surround the Chinese tariff skirmish. From the Micron earnings call transcript:
“Micron says it has mitigated 90% of China tariff impact. It says U.S. tariffs on goods from China had less than a 30 basis point impact on gross margin. The company still expects FY19 capital expenditures of $9B, and the Huawei ban will negatively impact Q4 revenue.”
Keep in mind that Micron is heavily impacted by Huawei, and not all have that same exposure. According to the consensus view, tariffs were supposed to crater Micron’s earnings.
Perhaps a confirmation of my view that the tariff issue is overblown, and that U.S. corporations can certainly offset some of the negative impact on their earnings.
FactSet Research weekly update:
For Q2 2019:
The estimated earnings decline for the S&P 500 is -2.6%. If -2.6% is the actual decline for the quarter, it will mark the first time the index has reported two straight quarters of year-over-year declines in earnings since Q1 2016 and Q2 2016.
With 20 of the companies in the S&P 500 reporting actual results for the quarter, 17 companies have reported a positive EPS surprise and 14 companies have reported a positive revenue surprise.
The forward 12 month P/E ratio for the S&P 500 is 16.6. This P/E ratio is above the 5 year average (16.5) and above the 10-year average (14.8).
The Political Scene
Presidents Trump and Xi to meet Saturday in Japan. The goal of a meeting between U.S. President Donald Trump and Chinese President Xi Jinping at G20 this weekend will be to restart trade negotiations, and there is a pretty good chance that will occur. The two countries could agree not to place new tariffs as a goodwill gesture, but it is unclear if that will happen at the meeting scheduled for Saturday. White House officials have said that no broad trade agreement is expected to be made at the meeting, but they hope to create a path forward as the two parties continued to be locked in a tariff dispute.
While investors may get a headline or two out of the weekend, no one should expect what will amount to a one day sit down between the two leaders to resolve what has been going on for years. Of course, we can expect any headline to be a potential market mover, but like the others they should be categorized as noise. After all, we’ve been through all of the trade headlines for 18 months and the S&P has put in three new highs. The majority of investors have overreacted to this issue from the beginning.
In my view the best outcome for the meeting would be a resumption of direct trade negotiations and, no new tariffs as a sign of goodwill.
Healthcare policy, inequity in the tax code, antitrust scrutiny, climate issues, and geopolitical challenges emerged as the leading topics in the first day of Democratic debates. China was the consensus geopolitical challenge to the U.S., a theme that we will probably see continue. Interestingly, “Wall Street” was not significantly targeted.
“Medicare for All” support was weak. By a show of hands vote, only 2 of the 10 candidates (Mayor Bill de Blasio and Sen. Warren) stated they would be in favor of eliminating the private insurance market during the process of implementing a Medicare for All system.
Many of the same leading themes (healthcare, taxes, climate) were featured in Thursday’s second debate, but candidates diverged on China trade issues and criticism of Wall Street compared to the first debate participants. Candidates criticized President Trump’s use of tariffs against China given the threat of a loss of consumers for U.S. producers and some appeared open to reversing the current trajectory of the relationship altogether.
Criticism of Wall Street also re-emerged, but in a limited fashion from Senator Sanders. China trade issues weren’t much of a factor in the first debate, but candidates took direct aim at China during round two.
When the Fed decided to wait and not raise rates in June, it bought itself some time to digest more information before acting. Here are just a few of the issues and data points they will now take a look at.
G-20 meeting in Japan on June 28-29
Core PCE for May on June 28 (1.6% estimate)
June nonfarm payrolls on July 5
June core CPI and PPI on July 11-12
Start of the second-quarter 2019 earnings season on July 16
Second-quarter 2019 GDP flash and annual benchmark revisions on July 26
The next FOMC meeting will take place on July 30-31.
The reason why I believe the Fed may actually cut rates next month is that it is no longer worried about a tight labor market leading to increased inflationary pressures that never materialized.
The recent drop in the Fed’s favorite inflation measures gives it the flexibility to follow the lead of the U.S. Treasury market. Contrary to the consensus opinion, the drop in Treasury rates is about inflation and is NOT predicting an economic recession.
That is confirmed when we look at the non-Treasury areas of credit. That area of the market is at or near its best levels of the cycle. If that theory proves correct, there is a more significant upside market reaction when the Fed makes an initial rate cut when no recession is seen as imminent.
The 3-month/10-year Treasury curve inverted three weeks ago and that curve remains inverted. Take the following for what it is worth. Historically an inversion in the curve has an 18- to 24-month lead time before recession. Furthermore in that period of time, stocks have done quite well.
The 2-year/10-year has yet to invert.
Source: U.S. Dept. Of The Treasury
The 2-10 spread started the year at 16 basis points; it stands at 25 basis points today.
ICI Fund Flows data today showed the largest 52-week withdrawal from equity mutual funds on record. Bond funds continue to see inflows, but in aggregate total mutual fund flows are about as weak as they’ll ever get.
This week’s AAII survey of investors showed hesitation more than anything with very small changes across the board. The percentage of investors reporting as bullish rose only 0.08% to 29.59%. Bullish sentiment saw a similar sized move only one month ago when it had risen from 24.71% to 24.79% in the final week of May. Given these readings, bullish sentiment remains at the lower end of its normal range sitting over 8.5 percentage points from the historical mean.
After the 9% gain last week, WTI traded up to the $59 level before backing off to close the week flat at $58.02, up $0.41 for the week.
The Weekly inventory report showed a large draw of 12.8 million barrels. That is the second largest draw in the last 20 years. At 469.6 million barrels, U.S. crude oil inventories are now about 5% above the five-year average for this time of year. Total motor gasoline inventories decreased by 1 million barrels last week and are at the five-year average for this time of year.
The Technical Picture
When the S&P made new highs it was accompanied by good breadth.
As shown above, Net New Highs made an all-time high as well. Bulls want to see an expansion of new highs from individual stocks when the broad market is making new highs, and in that regard, we got exactly that.
The last three peaks in the S&P have had little staying power. Each time a new high was made the index quickly reversed and the pullbacks were quite strong.
Chart courtesy of FreeStockCharts.com
What the bulls would like to see is a change of pace where this NEW peak consolidates and perhaps ticks higher, instead of dropping quickly. The late week gains stopped the initial move downward after new highs were established. That was a positive and perhaps the first step.
For those that are bullish, ideally any pullbacks will be well contained. The bears seem to fully expect the market to crack once again as they concentrate on the headlines. The debate rages on.
No need to guess what may occur; instead it will be important to concentrate on the short-term pivots that are meaningful. However, the Long Term view, the view 30,000 feet, is the only way to make successful decisions. These details are available in my daily updates to subscribers.
Short-term views are presented to give market participants a feel for the current situation. It should be noted that strategic investment decisions should NOT be based on any short-term view. These views contain a lot of noise and will lead an investor into whipsaw action that tends to detract from overall performance.
Urban Carmel kills the notion that the recent underperformance of the Russell 2000 is sending a dire message to investors:
“Small cap underperformance has more often marked a low in the S&P, not a high. Investors should be more worried when small caps, which are highly speculative and high beta lead, as this has most often been a feature of major bull market tops, the reverse of the situation we have now.”
The way analysts continually bring up the small caps as some great oracle that portends the doom of the general market, it is apparent common sense is not part of their analysis.
With this tweet, Urban Carmel shows us why following the headlines isn’t always the best idea.
What is even more frightening, these headlines all occurred during a bull market backdrop. The S&P is up 50+% since the first 2013 headline.
Individual Stocks and Sectors
In a Bull market, money rotation from sector to sector is always a positive sign. It also throws a lot of cold water on the bear themes that the advance is very narrow. Energy and Materials have been left for dead, and during June they outperformed the S&P rising 9% and 10% respectively.
Financials have not been part of rallies lately; they caught a bid this past week. Goldman Sachs (GS) up 4.6%, Citigroup (C) and Bank of America (BAC) gained 3+% on the week. JPMorgan was up 2+%. The all important Semiconductor Index (SOXX) held support and rallied hard, up 8% for the week.
Despite the caution lights being turned on for the general market, Technology remains at the top of the list when talking about performance.
The narrative that the U.S. economy is in trouble, some say teetering on the edge of recession, has become so overwhelming and persuasive that few investors give it a second thought. Take that one step further and the majority then believes a rate cut is necessary.
Policy is not tight. I am hard pressed to believe that interest rates at these levels is keeping anyone from making an investment. Ironic how the majority are anxious that the Fed may NOT cut rates, when they should be relieved that rates aren’t about to be increased.
The naysayers have the microphone now and they point to manufacturing PMIs, a weak jobs report last month, and slowing global growth. I don’t believe there has ever been a U.S. recession caused by weakness overseas. It is the other way around. The weak jobs report is simply being taken out of context. Other monthly job reports have come in weaker than the May numbers, and we are still not in a recession. Let us not forget job openings are 1.6 million greater than the total unemployed.
I am hard pressed to believe recession is right around the corner unless I allow myself to get swayed and talked into one. Combine this narrative with other commentary about tariffs, and one has to wonder if that is exactly what investors are doing to themselves.
There are plenty of cross currents with which market participants have to be mindful of now. Many are questioning how they should be positioned with the stock market at new highs in a growing but slowing economy. A Treasury market with an inverted yield curve and a bond market that is seemingly demanding Fed rate cuts. Add in the trade spat with China, and many are confused. They pull back equity participation or leave the market all together, only to see the stock market post new highs.
Knowing how the market works and knowing what it responds to goes a long way in successfully managing a portfolio.
The answers to how all of the issues will eventually be resolved may seem complex, but in reality it is very simple. The view from the macro level remains positive. Investors need to understand the complexities the stock market presents. On the technical front, none of the longer-term trend lines are flattening out or rolling over. That is something that precedes every major market downturn. The fundamental backdrop is far from perfect, but it isn’t that bad either.
There are numerous complaints regarding the technical backdrop about this or that data point, and of course the majority of investors classify the fundamental scene as fair if not poor. If an investor selects one or two metrics to make their technical case and is waiting for all to be perfect, they will be putting money to work at the market top. That will be the time period where everyone says the coast is clear.
The strategy that successful investors employ keeps the macro view prominent and that strategy trumps all else. So far it has once again led the followers to new highs.
Stay the course.
I would also like to take a moment and remind all of the readers of an important issue. In these types of forums, readers bring a host of situations and variables to the table when visiting these articles. Therefore it is impossible to pinpoint what may be right for each situation. Please keep that in mind when forming your investment strategy.
to all of the readers that contribute to this forum to make these articles a better experience for everyone.
Best of Luck to All!
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Disclosure: I am/we are long EVERY STOCK MENTIONED IN THE ARTICLE AND EVERY STOCK/ETF IN THE SAVVY PORTFOLIOS. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: My portfolios are ALL positioned to take advantage of the bull market with NO hedges in place.
This article contains my views of the equity market, it reflects the strategy and positioning that is comfortable for me. Of course, it is not suited for everyone, as there are far too many variables. Hopefully it sparks ideas, adds some common sense to the intricate investing process, and makes investors feel more calm, putting them in control.
The opinions rendered here, are just that – opinions – and along with positions can change at any time.
As always I encourage readers to use common sense when it comes to managing any ideas that I decide to share with the community. Nowhere is it implied that any stock should be bought and put away until you die. Periodic reviews are mandatory to adjust to changes in the macro backdrop that will take place over time.