Archives for March 2018

In the Throes of the Bottoming Process

1100 point decline to end the week certainly makes people pay attention. It still feels like yesterday (or late January) when all the talk was about a year long stock market melt up.Tax reform, 700+ regulations killed, GDP accelerating. All paths led higher. Almost every day, Donald Trump celebrated fresh all-time highs and used the stock market as his report card. Oh, the good ole days!

As I wrote about last week, I don’t believe it’s about Facebook or Trump’s revolving door White House or Stormy Whoever. Given that we saw red almost across the entire board, this was a liquidation of assets leaving equities. While Treasury bonds fared fine, it wasn’t the old fashioned flight to quality everyone has become used to seeing over the past 35 years. Crude oil rallied. Gold did too. Agriculture commodities look to be primed to be move higher. In my 2018 Fearless Forecast, I wrote about the very long-term view of commodities and I think they could have a decade-long runway ahead.

Anyway, the Dow was under significant pressure last week and is only a one day decline from my original downside target of 23,000. Interestingly, in a somewhat more complex path than I originally laid out, stocks are back to behaving most like scenario #1 again as shown below. We had the mini-crash followed by the snapback rally that went further than I thought and now a longer than usual revisiting of the mini-crash lows. The final step in the bottoming process is here, assuming my bullish outlook is the correct one, and it could take a few days or longer to solidify.

As such, the major stock market indices are supposed to hammer out a bottom this holiday-shortened week. And it’s really supposed to be on Tuesday or Wednesday if you want to get greedy. It’s as simple as that. With one more SWOOSH lower all of the requisite items would be in place for the low that leads to all-time highs again. And it looks like the Dow and S&P 500 are the most likely candidates to see the final selloff below the February lows while the S&P 400 and Russell 2000 should remain comfortably above those levels. The jury is still out on the NASDAQ 100.

Now, if it were only all that easy!

What is “supposed” to happen and what actually happens sometimes diverge. And comes some counter intuitive analysis. After two bloody days last Thursday and Friday, the best path if you are a bull is for a large down opening on Monday that makes headlines and creates fear. If stocks don’t find buyers after lunch, then a down 1000 would be in the cards. If stocks found buyers after lunch, then a bottom could be cemented by the close. If not, Tuesday would shape up to be the pivotal day.

If stocks up sharply higher, that just prolongs the bottoming process. While it may feel good to see a bounce that would push out the ultimate low until the rally fizzled out and a breach of Friday’s lowest level was seen. In this case, there could be a failing multi-day snapback where all of the talk in the financial media centered around the successful retest of the February lows.

With overnight action in the green so far, it preliminarily appears as though the latter scenario could be unfolding. That’s the more difficult of the two.

Over the past week, I have received an unusually high number of emails regarding my bullish and still positive outlook for stocks over the coming quarter or so. Almost all have been on the negative or opposite side of my view. First, please keep the email and tweets coming! Everyone wins when there is debate. I certainly don’t hold the patent on offering market forecasts and I am always one to listen to other views. My good friends in the industry will attest that when I offer my forecasts to them, I usually ask them how I am going to be wrong. What am I missing.

The other night my son and I had dinner with some ski friends in Vermont who are also industry peers. As usual, my friend Rich and I spent a good deal of time discussing Trump, the economy and of course, the stock market. Sometimes we are in full agreement while other times we are on opposite sides. Never a voice raised or name called unless it’s from our wives. The thing about Rich and me is that it’s not important who ends up being right or wrong. If either one of us can help the other to consider a different scenario or uncover new information we both win. And we both agree that we would happily be wrong forever in our opinions as long as we make money in the markets.

That’s the glaring difference between people who offer market commentary without any consequences and those of us who manage money with the proof being our daily, weekly, monthly, quarterly and annual performance. Commentators, strategists and analysts can dig their heels in and call for a massive decline year after year after year. Eventually, they will be proven correct. If you ran a portfolio like that, the likely scenario would be losing most of your clients’ money and/or being terminated.

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What Happened to the Stock Market Melt Up?

700+ points of Dow decline on Thursday surely did change sentiment quickly. And while stock market bottoms do occur on Fridays (13% of the time), contrary to popular belief, the final low is unlikely to be today. Earlier this week, I discussed how all three of my offered scenarios were breaking down as they all eventually do, I thought the Dow would go check out 24,200 but likely head all the way down towards 23,000 which is below the lows from February. However, I do not believe the other major indices will all exceed their February lows, which creates a non confirmation or divergence.

Sector-wise, semis and banks look the healthiest of the four key ones with transports and discretionary trying to hang on. I am most concerned about the consumer. Defensive stocks have been battered and bludgeoned as much as cyclical ones. And bonds aren’t really offering that safe haven.

As I mentioned on Fox Business yesterday and something I will be writing about for the next two plus years, tariffs are awful economically. No one wins in a trade war. The Fed is raising rates AND selling assets at the same time as the Treasury needs to borrow more money. This is not a good combination and will end poorly if not changed.

Before you out and buy bottled water and canned goods, I still forecast fresh all-time highs in the Dow coming by summer. Sure, I could always be wrong, but the evidence doesn’t support recession and a bear market just yet. That time will come.

Remember when the only talk was about a stock market melt up?!?!

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***SPECIAL Fed Update – Rates Are Going Up Again & Then Some***

Stock Market Behavior Models for the Day

As with every Federal Open Market Committee (FOMC) statement day, there is a model for the stock market to follow pre and post announcement. Certain environments have very strong tendencies while others do not. Over the past few meetings, many of the strongest trends muted although the system that said to sell on the close of the meeting hit a home run. The S&P immediately crashed from 2824 to 2645 or 6% during this quarter’s big market swoon. To be fair, although 6% was the return for the system, it certainly wasn’t due to the post-FOMC trend that the trade was based on. Sometimes, it’s better to be lucky than good!

As with most statement days, the model for the day calls for stocks to return plus or minus 0.50% until 2:00 PM. There is a 90% chance that occurs. If the stock market opens outside of that range, there is a strong trend to see stocks move in the opposite direction until 2:00 PM. For example, if the Dow opens down 1%, the model says to buy at the open and hold until at least 2:00 PM.

With stocks somewhat on the defensive lately, the next model calls for stocks to close higher today and rally after 2:00 PM. That is usually a very strong trend, 80%+, especially after seeing weakness into statement day (today).

Rate Hike Coming Today – At Least 3 More On The Way After

This is Chairman Jay Powell’s first meeting as chairman. History has shown that markets typically test newly confirmed chairs very early in their term and 2018 was no different as stocks immediately collapsed in early February as Powell assumed the reigns. The change from Yellen to Powell should be fairly seamless as their views were very much in line. I do not expect Powell to deviate much from Yellen’s course.

As such, everyone is expecting another 1/4% rate hike today at 2 pm.

In my 2018 Fearless Forecast, I called for 3.5 interest rate hikes by the Fed this year. With the data so far this year, I am sticking with that forecast with the risk to the upside, meaning that four or an outside shot at five hikes could be in the cards.

After announcing their hike today, I also expect Powell et al to slightly upgrade their economic forecast, continuing to lay the groundwork for higher short-term interest rates. At the same time the Fed will forge ahead with their program to reduce the size of their massive balance sheet, accumulated through three rounds of quantitative easing. As I have said too many times to count, this experiment is going to end very badly.

The Fed should have chosen one or the other. Hike rates or sell assets. Conducting both is an horrendous decision in my view. There is absolutely no doubt in my mind that recession is going to hit by the election of 2020. While it may be mild like we saw after 9-11, it will still hurt. And the Fed’s fingerprints will be all over this as they have before every single recession of the modern era. It seems like the Fed just can’t help themselves. They are destined to screw up economic expansions. Of course, there is always some external final catalyst like the financial crisis, 9-11, S&L crisis, etc. However, the Fed has always been hiking rates right into those events, long after common sense dictated a pause.

Let’s remember that the Fed was asleep at the wheel before the 1987 crash. In fact, Alan Greenspan, one of the worst Fed chairs of all-time, actually raised interest rates just before that fateful day, stepping on the throat of liquidity and turning a routine bull market correction into a 30% bear market and crash. In 1998 before Russia defaulted on her debt and Long Term Capital almost took down the entire financial system, the Fed was raising rates again. Just after the Dotcom Bubble burst in March 2000, ole Alan started hiking rates in May 2000. And let’s not even go to 2007 where Ben Bernanke whom I view as one of the greats, proclaimed that there would be no contagion from the sub prime mortgage collapse.

Yes. The Fed needs to stop.

Velocity of Money Most Important

Below is a chart I have shown at least quarterly since 2008. With the exception of a brief period from mid 2009 to mid 2010, the velocity of money collapsed. It’s still too early to conclude, but it does look like it stopped going down in 2017 and might be just slightly starting to turn up. If 2017 does turn out to be the bottom, this could could eventually lead to the commodity boom I see for the 2020s, especially ex energy.

In the easiest terms, M2V measures how many times one unit of currency is turned over a period of time in the economy. As you can see, it’s been in a disastrous bear market since 1998 which just so happens to be the year where the Internet starting becoming a real force in the economy. Although it did uptick during the housing boom as rates went up, it turned out to be just a bounce before the collapse continued right to the present.

This single chart definitely speaks to some structural problems in the financial system. Money is not getting turned over and desperately needs to. The economy has been suffering for many years and will not fully recover and function normally until money velocity rallies. This is one chart the Fed should be focused on all of the time.

It would be interesting to see the impact if the Fed stopped paying banks for keeping reserves with the Fed. That could presumably force money out from the Fed and into loans or other performing assets. It continues to boggle my mind why no one called the Fed out on this and certainly not Yellen at her quarterly press conferences. Hopefully, someone will question Chairman Powell on this!

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Scenarios Breaking Down

For the past 6 weeks, I have offered what has now amounted to three plausible scenarios for where stocks are headed over the coming three to four months. While the short-term ups and downs varied, all paths from my perspective ended up at new highs for the major stock market indices. Nothing has changed in this regard and I continue to expect Dow 27,000 by the end of Q2 (June 30).

As with almost every single market analog, eventually, they all break down and find their own path. Remember, markets rhyme all the time but never exactly repeat.

Let’s take a look at the three scenarios we have been watching as they all seem to be breaking down.

If you analyze all three scenarios, you may conclude that stocks seem to be behaving weaker than any of the paths suggest. I would agree with that in the short-term, but not alter my intermediate-term view at all. There are lots of crosscurrents right now, but aren’t there always?

I heard a few pundits as well as anchors opine that Monday’s rout by the bears was all tied to the Facebook news. If that isn’t the single most asinine market statement of the year, I don’t know what is! While Facebook certainly impacted tech stocks, especially those in its own sector, the Facebook data scandal will have absolutely no impact on inflation, GDP, liquidity nor 95% of the companies in the rest of the stock market. You just can’t fix stupid.

Stocks did decline on Monday and Facebook was the story of the day. I am definitely not saying “so what” to the decline as 90% of the volume was in stocks trading to the downside, but I am also not concluding that it was some seminal day and a bear market has begun. Remember, the NASDAQ100 hit an all-time high last week.

Leadership in my four key sectors has been strong with semis seeing an all-time high last week. Banks saw new highs last week. Discretionary and transports are chugging along. With the Dow being the weakest major index, it is certainly not out of the realm of possibilities that it could decline another 1000 points or more and retest its 2018 low. However, in that case I would still expect the other indices to hang well above their 2018 lows. Things will settle down sooner than later.

The Fed is meeting today (Tuesday) and tomorrow with the big announcement at 2:00 PM. I will have my usual special update out shortly.

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Nasty, Ugly Reversal

Stock market action on Tuesday printed a classic nasty and ugly reversal when looking at the charts. Stocks opened at the highs for the day and closed at their lows. Additionally, the move from high to low completely enveloped the previous day’s activity. While this does look really bad on a chart and people will often say it’s a classic key reversal which ends rallies and bull markets, research doesn’t support that claim. Sure, you can see and have seen this behavior at some market peaks. However, it has been seen so many other times that it’s track record is very poor. As with many claims, it worth paying attention to, but not always actionable.

Let’s start with the S&P 500 below. You can see what I am talking about just below the arrow. Additionally, the same thing occurred at the little peak in late February.

The Russell 2000 small caps are next and you can see four “key” reversals on the chart with the one at the highest peak leading to the correction. The others led to nothing.

Finally, the NASDAQ 100 is below.

Taken in a vacuum, “key” reversals have more bark than bite. However, when combined with other indicators and research, they may be able to support a thesis. In today’s case, I think we could see some mild weakness which ends up totaling 1-3%, but that should be another buying opportunity for a run to new highs. The NASDAQ 100 is already there and the Russell 2000 was a whisker away.

Tomorrow, I will review sector leadership along with junk bonds and the NYSE A/D line.

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2018 Looking A Lot Like 1997

As you know, I have been hanging my hat on two scenarios for the market since early February. I updated those yesterday. While both scenarios still lead to Dow 27,000 by the end of Q2, I searched long and hard for further evidence to support my thesis. I love finding market analogs, but there haven’t been many to what transpired over the past 6 weeks.

1997 seems like the most favorable comparison and when I lined them up, it looked fairly strong. Below you can see 1997 followed by current stock market action. I added labels for emphasis. While the rally in 1997 wasn’t as powerful as we saw recently, it was still a solid rally, mini crash, reversal and mild retest. That mild retest fooled a lot of people into thinking that more weakness was coming toward Dow 23,500. On balance, stocks should continue higher although a brief 1-2% pullback should be expected this month.

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I’m Back! Dow Still Going to 27,000

I want to start off by thanking everyone for the overwhelming support, compassion and number of condolences on my dad’s passing. It has been a difficult few weeks both pre and post funeral and Shiva,  but my family and I were tremendously comforted by so many people coming out of the woodwork with calls, cards, texts, emails, donations to his favorite charities and an amazing amount of stories about my dad, many of which I was hearing for the first time.

While my writing had gone dark for the past 10 days we have been very active with our portfolios. When I left off on March 1 we had dramatically reduced our exposure to stocks just as the market was beginning it’s last little 1000 point plunge. I mentioned that we were keenly watching events unfold for an opportunity to redeploy that cash. Little did I know that the moment would come less than a day later as stocks were hammering out a bottom just above Dow 24,200. So far, both moves seem to have been very fortuitous.

Let’s return to what has become my favorite two charts and scenarios. The first was the preferred path until I relegated it to number two a few weeks ago. Stocks were closely following my arrows for a while.

The chart above became my number one scenario and except for the latest bout of weakness going a bit deeper than thought, this one seems to be on target for now. Remember, regardless of which scenario wins out or if a new one becomes possible, I have said all along that all paths lead to fresh all-time highs for stocks by the end of Q2. I have written it here as well as pounded the table about it on Fox Business and CNBC. No wavering here. The bull  market remains alive.

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FYI

Earlier this week, my dad, Richard “Dick” Schatz, passed away. He had been sick for a while, but just kept beating the odds with some amazing clinical trials at Memorial Sloan Kettering. If you called the office over the years, every once in a while he would answer our phone and engage in conversation with literally anyone who could fog a mirror.

Below is the most recent picture of my parents at a milestone birthday party for one of his best friends before Dick got sick. My dad loved a party and never wanted to miss a chance to have a good time, even with his two left feet, size 14 and complete lack of rhythm and tone.

Information about the arrangements can be obtained by calling the office.

While I have canceled all meetings for the next week (thank you for understanding), I am doing my best to respond to emails and return phone calls in a timely manner. Your portfolio is being run in the exact same fashion as it has been over the last week, month, quarter and year. We dramatically lightened up on equities about 1000+ points ago and are keenly watching for the opportunity to redeploy over the coming days and weeks. The bull market remains alive, whether stocks attempt to find a bottom above 24,000 or even below 23,000.

As always, thank you for your support, loyalty and understanding.

Paul

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