Bulls then Bears and Finally Bulls

The stock market had a nice little reversal on Friday as the bulls fended off morning weakness to close well off the lows. While I remain in the pullback camp and see lower prices ahead, the bulls should have enough ammunition to mount a small rally here. If Friday’s lows are closed below anytime this week, I would become slightly more concerned than I already am regarding the short-term, but I don’t think that’s the most likely scenario here.

On the sector side, most still look very constructive although semis, healthcare and biotech are the problems. High yield bonds remain strong and the NYSE advance/decline line behaves like a new bull market was just launched as you can see below. For all those perma-bears who continue to wrongly believe that stocks are in a bear market, this one chart below refutes all claims.

NYAD

All in all, the stock market remains healthy over the intermediate-term, but the short-term risk/reward ratio favors the bears a little. Just your typical, routine and healthy pause to refresh.

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Apple’s Collapse as the Market Bears Reign

Just over a week ago and one day after most of the major market indices peaked, I posted a piece entitled Reigning in Bullishness where for the first time since the rally began in February, I tempered my enthusiasm. I couched my negative comments with more sanguine words that I absolutely do not believe the bull market has topped. This looks like a routine, normal and healthy pullback, but also the deepest decline since the rally  began.

It’s been a crazy week with the Fed not raising and not really changing their stance, Apple’s earnings disaster and the Bank of Japan standing pat. As a side note, whenever Apple has problems, it’s amazing how many people come to its defense. When I am critical of the company which I most recently was on CNBC, Has Apple turned rotten, people act as if I attacked them personally. I love the amateurs who think they know more about the company than everyone else. You just have to laugh. Of note, famous activist hedge fund investor, Carl Icahn, publicly disclosed yesterday that he sold all of his Apple stock though he still supports Donald Trump. This was the same Icahn who pounded the table for months and quarters about how wonderful the company was and his bromance with management. Now, citing China concerns, he sells all of his stock as if the entire game changed in his mind overnight. I guess Carl couldn’t Make Apple Great Again!

Anyway, getting back to business today is also month end where we can sometimes see portfolio games. The NASDAQ 100 is now down five straight days which usually means a bounce is coming. Sector leadership remains constructive with the defense groups, staples, utilities and REITs under pressure. Healthcare and biotech are head shakers as they finally got into a leadership position after several quarters of faltering, only to roll over again this week.

Unless high yield bonds roll over and begin to underperform, I remain in the camp that we will see a buying opportunity sometime in May. For now, junk bonds remain long and strong.

Have a good weekend!

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The “Secret” Reason Yellen Doesn’t Want to Raise Rates. Special Fed Meeting Update

I believe there is a “secret” behind the Fed being slow to hike short-term interest rates. I will get to that in a minute.

Today’s Meeting

Let’s start with non-controversial items first. The Federal Reserve Open Market Committee concludes their two day meeting with an announcement at 2 pm that interest rates will not change today. That’s what the markets are expecting. There has been all kinds of hot air coming from several Fed officials that rates need to rise now, but Chair Janet Yellen has been on the other side, sticking with her more accommodative stance. It would be very hard to believe that the majority of voting members would overtly vote against their chair.

The statement comes next and because it’s not one of the quarterly press conference meetings, it’s even further unlikely that Yellen & Co. will raise rates without releasing their updated forecast and answer questions. Regarding the verbiage, there is no consensus on what will be released.

Looking at the calendar, the most likely opportunities for the Fed to raise interest rates are at the June and December meetings which include the quarterly update. I took September off the table because it’s too close to the election and without a clear and present crisis to fight, it’s unlikely the Fed would move so close to election day.

My own stance remains unchanged since 2008. That is that the Fed should not raise rates at all until the other side of the next recession. I wasn’t referring to getting through the Great Recession. I meant the mild one that should come next this decade. After that recession, I believe interest rates will go on a 25-40 year bull market with inflation finally becoming commonplace again.

That forecast also coincides with the final crisis in Europe later this decade. One way or another, with or without the Euro, Europe’s rubber meets the road this decade. Kicking can is no longer possible. There will likely be defaults and reorganizations, but Europe should become a great place to invest in the 2020s.

Yellen & Co. Set a Precedent
Getting back to the subject line of this update, I firmly believe that the Fed’s main reason for not raising rates isn’t all that transparent. However, the “secret” I call it isn’t nefarious or with some conspiracy laden ulterior motive.

Yellen is in a tough spot. The U.S. economy is certainly strong enough to withstand a rate hike or two. It’s hard to argue that although the Fed did set all kinds of precedents in December with that increase.

  • First rate hike ever with inflation under 1%.
  • First rate hike ever with the annual social security COLA at 0%.
  • First rate hike ever with wage growth needing to jump 100% to hit the Fed’s target.
  • First rate hike ever with industrial production on the verge of recessionary levels.
  • First rate hike ever with GDP barely 2%.
  • First rate hike ever with inflation expectations close to 0%.
  • First rate hike ever with retail sales closer to recession than escape velocity.
  • First rate hike ever with non-farm payroll job growth continuing to decelerate.
The “Secret”
Anyway, if Yellen & Co. hike rates now or soon given what’s going on in Europe and Japan with negative interest rates, the Euro and Yen would likely fall precipitously, meaning that the U.S. dollar would strengthen dramatically. This would almost certainly lead to an enormous flight of capital out of Europe and Japan and into the U.S. Remember, capital always flows to where its treated best.

Before the financial markets were truly global, you can see how this occurred in the early to mid 1980s as the dollar soared to its highest levels of all-time. Massive capital inflows would first go into the dollar and then typically into shorter-term treasury instruments. In the 1980s, we also saw flows into large cap, blue chip stocks, which I can see happening this decade and fueling the Dow into the 20,000s.

In the 1980s, these capital inflows helped fuel the nearly vertical rise in our stock market. However, eventually, when there are enormous capital flows to one system and out of others, market dislocations grow and grow and grow. Look at how sharply the dollar began to collapse from 1985 to late 1987.

When newly appointed Fed chair, Alan Greenspan, raised rates in August 1987, the dollar still fell as stocks peaked. As the stock market began to unravel in mid-October, then Treasury Secretary, James Baker, famously warned on the morning of the October 19th crash that the U.S. was not going to intervene and support the dollar. With portfolio insurance to add fuel to the fire, our stock market crashed.

I believe the Fed fears a much worse inflow of capital into this country which may be good in the short-term, but disastrous long-term. There is much more global capital today and our financial system is much more linked than ever. Money can flow around at warp speed.

Should we see a torrent of capital flow into the U.S., these kinds of events rarely, if ever, end well. See Japan since 1990 as one piece of evidence. Should our dollar resume its secular bull market, which I think it will by 2017, we may be looking at a major global financial market dislocation later this decade as a result, something the Fed doesn’t want to contribute to.

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Apple & The Fed. A Volatile Concoction…

The FOMC begins their regularly scheduled two-day meeting today. Typically, stocks are quiet with a small upward bias. However, Apple reports earnings after the bell and that almost always provides some movement as the tech behemoth has an outsized weighting in the S&P 500, Dow and NASDAQ 100. I have absolutely no opinion on how their earnings will be and I really only care about how the market reacts anyway. The fact that it has sold off into earnings gives the bulls a slight edge to reverse the weakness by the end of the week.

Getting back to the Fed, expectations are that rates will remain as is for now with June as a less than 50% of a hike. September should be off the table as it is an election year and there is no clear and present danger to fight. So that really means that if Yellen & Co. do not hike rates in June, December is the next viable option. What a far cry from four rate hikes in 2016 as first forecast by the Fed!

Regarding the stock market, I remain in the cautious camp since last week as I believe the major indices are in the process of peaking. Apple will have a lot to do with the short-term direction of the NDX which is underperforming. None of the four key sectors are rolling over which is one reason I believe we will just see a modest pullback. Previous defensive leaders, staples, utilities and REITs are all bouncing back, but it looks like they have seen their peaks for a while and strength should be sold.

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Reigning in Bullishness

It has certainly been one sensational run for the bulls since February 11th. Hopefully, you have not only enjoyed it but profited from it as well. I know I could not have pounded the table any harder at the bottom to buy at a time when CNBC and Fox Business only paraded the doom and gloom crowd with calls for a new bear market and a repeat of 2008. And while I do not believe the final highs are in, I am changing my tune and now looking for the most significant weakness since the rally began. Yes, you read that right. I am no longer the staunchest bull in the short-term although that time should come again.

Over the 6 and 12 month time horizon, almost every study points to higher prices. Over the next few weeks to a month or so, risk has increased beyond the norm and it was time to take action. Whether by skill or luck, I am thankful to have done so ahead of the slew of earnings misses after Thursday’s close.

What changed?

To begin with, price in the major indices began to look tired on Wednesday and followed through on Thursday, something we haven’t seen since the rally began. Sentiment which had been a tad too bullish swung further in that direction and is now definitely too bullish. While the window of opportunity for a stock market decline has now opened, this does not look like an across the board rout. As I mentioned earlier in the week, the biotech sector has been looking really interesting for an upside breakout and the bulls took charge on Thursday. This is one sector that could continue to rally in the face of a general market pullback if it want to.

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Crushing the Doubters

I know I must sound like a broken record, but boy, have the bulls been tough to fight. Just when the bears think a deeper pullback has started, the bulls step up again and power stocks higher. After an unexpected turnaround on Monday from the early weakness after the lack of OPEC production cuts, stocks are pausing once again. Earnings season is in full swing and we have heard time and time again how this is the worst earnings since the financial crisis.

What does the stock market say? SO WHAT!!!

Just today, Intel missed expectations and is now up almost 1%. That’s been the pattern. Crush the naysayers! The major indices are all at 2016 highs. Breadth remains powerful. The disavowing and hating crowd is still loud. As I have said since late February, buying the dips is the correct strategy until proven otherwise.

For a long while I just didn’t know what to make of the banks and I am not sure I do now. However, the sector has really stepped up over the past two weeks and is leading the market. That’s definitely not a negative. Industrials, materials and energy are all following suit while some of the defensive groups take a break. Biotech is probably the most interesting here and has the prospect of breaking out to the upside.

All the while, both high yield and treasury bonds are rallying with commodities. Unusual behavior and indicates lots of money looking for a home.

If you’re not having fun in this market, I don’t know when you will!

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All-Time Highs On the Way, But…

After a 24 hour trip to Houston, I am happily back home.Thanks to the Houston MTA for hosting me and inviting me to speak at their chapter meeting. I really enjoyed my time there. It was also good to see clients, colleagues and friends, all in 24 hours!

When I look back over my posts since the bottom, there has been one common theme. The bulls are in control. Higher prices to follow. Expect brief and mild pullbacks. Continue to buy. Almost without pause, the masses, especially in the media, have hated and disavowed this new leg in the bull market. I keep seeing calls for a new bear market and recession and global meltdown. Well my friends in the bear camp, the stock market doesn’t believe so and certainly isn’t listening.

Stocks have had a nice two days with an enormous amount of breakouts on an individual and sector basis. Breadth has been strong and the new highs/news lows ratio has been powerful. You can almost get giddy about sector leadership as the banks and diversified financials finally played some catch up. It’s very hard to poke holes as the more aggressive beta sectors are forging ahead with the defensive groups ceding their leadership role. Even junk bonds are listening and moving higher once again.

Over the next 6 and 12 months as I have said over and over, stocks should be higher than they are today. In the very short-term, stocks are overbought and could use a rest. I wouldn’t be surprised to see a pullback over the coming few days or so, but one that should be bought until proven otherwise.

At the same time stocks may pause from their highest levels of the year, gold has now seen a lower high with “smart money” on the sell side. That should lead to lower gold prices over the short-term. Bonds have not seen the normal decline as stocks rallied. Many have opined that the bond market senses recession or slowing growth. Stocks indicate the opposite. I think bonds are holding up so well because competition around the world is essentially non-existent.

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Give the Bears a Break

Last Friday, I wrote about stocks looking a little sleepy, but that higher prices would eventually prevail. For the 6th time since the rally began on February 11th, the stock market is pulling back. It’s normal, healthy and expected. No need to panic. The bears should be out in force shortly with calls of another correction or resumption of the bear market. But let’s give them a break; they have had so little to celebrate for almost two months.

The chart below isn’t a new one, but one I have shown various time with more data added as time has gone on. I first published right at the bottom in February amid calls that I was naive and pollyanna’ish. My oh my how price has a way of changing sentiment and behavior. Stocks already achieved the target I set for Q2 so a little rest is certainly warranted. Whatever weakness we see will be yet another buying opportunity for higher prices over the coming 6 and 12 months. Keep in mind that I am not calling for a straight up move into 2017, just that on balance, prices should continue to move higher. I wouldn’t be surprised for a more significant bout of weakness to hit later in Q3 or early in Q4.

dow

If I had to point to one or two things that concern me in the short-term, they would be high yield bonds and the banks. The former peaked before the major stock market indices along with crude oil while the latter has lagged the whole rally since February 11th. It would be a huge shot in the arm for the bulls if junk bonds can make new highs for 2016 sooner than later. The banks have been frustrating for both bulls and bears. I am still not sure what to make of them, only that if they get moving to the upside, we could see some real upside fireworks. Conversely, if they break down, that would create a more serious headwind for stocks.

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History Says Higher, but Stocks a Little Sleepy

Stocks ended the quarter just shy of fresh highs and booked a huge 6%+ return for March. Historically, that portends more upside over the first week of April. Speaking of April, it is one of the strongest months of the year. Most of the long-term studies I have done and read indicate higher prices 6 and 12 months out.

On the flip side, stocks have looked a little sleepy over the past two days and today is the monthly release of the employment data. I don’t expect anything unusually strong nor weak for this report and I don’t think it’s a market mover. Perhaps, we are looking at a few days of pause to digest.

The U.S. dollar has been particularly weak of late, thanks to Janet Yellen’s throwing of cold water on an April interest rate hike. The greenback is stretched enough on the downside to warrant at least a quick bounce here. Should that happen, you can expect the euro, loonie and pound to pullback. I am not convinced the yen will follow suit since bonds are bouncing and the yen usually moves with bonds.

Lots of short-term crosscurrents, but nothing significant of note for now.

Have a great weekend! Men’s and women’s Final Four. I will take North Carolina and Oklahoma in the finals on Monday on the men’s side. On the women’s side, here we go Huskies!! Going for our 4th straight national championship to cap a career for the greatest female college basketball player of all-time!

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Bye Bye March & Q1

Last day of the month. Last day of the quarter. What a ride it’s been although if you fell asleep on New Year’s Eve and woke up today, you might conclude it was a quiet three months with the Dow up a few hundred and points and the S&P up 1%. As we all know, it was anything but dull. March is on pace to return more than 6% after an historically weak start to the year. This kind of strength usually spills over early in the next month.

Yesterday, I left off with a look at the sectors. Two of the four key ones, semis and consumer discretionary, continue to march higher constructively. After a huge rally off the January bottom, the transports are looking a little tired and unable to score a fresh high this week. Banks continue to be a head scratcher, spending the month going sideways. They REALLY need to step up and breakout!

Consumer staples and utilities on the defensive side are at or very close to all-time highs. Telecom and REITs are making 6 month highs. These four groups are proxies for a low interest rate, slow growth environment. The rest of the sectors look “fine”, but not incredibly healthy.

Finally, one of my favorite canaries in the coal mine, high yield bonds, have been dynamite since mid-February, which certainly helped lead to that huge stock market rally in March. High yield has taken a little breather of late and they absolutely must see fresh highs in April to keep the stock market rally going.

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