What’s on Tap: Stock Traders Have It Wrong as Bullish Indicators Continue

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  • What’s Spooking Wall Street? Investment Opportunities Abound

  • Overblown Fears: Inverted Yield-Curves Do Not Forecast Recession

  • Looking Ahead to Job Openings, Inflation and Retail Sales

If you need a reminder about why being a Wall Street trader is so difficult, just consider the past week.

On Monday, U.S. stocks (measured by the S&P 500 index) rallied 1.1%, seemingly on news that Presidents Trump and Xi had put a U.S.-China trade war on hold. A day later, stocks fell more than 3% as it appeared the trade truce wasn’t as benign as expected. Then, after a reprieve in honor of President George H.W. Bush, stocks fell nearly 3% Thursday morning before rallying to finish the day roughly flat. Friday morning, stocks shot higher and then headed south. We think trying to trade the markets based on speculation and emotion is a losing game and in weeks like this one it’s easy to see why.

 Wall Street’s daily perturbation notwithstanding, we think that continued earnings growth, still-low interest rates and a fully employed U.S. consumer with the means and desire to spend are bullish, not bearish, signs. While index investors must simply follow the markets’ ups and downs, our tactical investment strategies seek to discern when true investment opportunities become available and scoop them up with a goal of building wealth over the long haul.

For the year through Thursday, the Dow Jones Industrial Average has returned 3.2%, while the broader S&P 500 has gained 2.7%. The MSCI EAFE index, a measure of developed international stock markets, is down 11.9%. As of Thursday, the yield on the Bloomberg Barclays U.S. Aggregate Bond index has climbed to 3.47% from 2.71% at 2017’s end. On a total return basis, the U.S. bond market has declined 1.1% for the year.

What’s Spooking Wall Street? Investment Opportunities Abound

As briefly noted, the war of words over the potential for a U.S.-China trade war or truce was but one catalyst for this week’s market turmoil. The Dec. 1 arrest of a high-profile Chinese executive on an alleged sanction violation—and the U.S.’s call for her extradition from Canadian custody—threw yet another unknown into the current trade-war concerns. Ultimately, while a trade war is possible, and would be detrimental to both the U.S. and the Chinese economies, the impact wouldn’t be felt right away, and likely not at a level that would put us into recession. For now, we think trade-war fears are well ahead of tariff facts.

Another concern for Wall Street has been the potential for Fed policymakers to raise interest rates too far, too soon, stifling economic growth. The numbers still suggest that the Fed will raise interest rates another 0.25% on Dec. 19. Apparently there is a new and growing debate over whether the current course of raising rates every quarter will continue into 2019 as some indicators suggest interest rates are about where they should be given the current state of employment and inflation. This newest uncertainty has also added to Wall Street’s jitters.

Overblown Fears: Inverted Yield-Curves Do Not Forecast Recession

Some pundits claim that the inversion of the yield curve—a situation marked by short-term bonds out-yielding longer-term bonds—always precedes and predicts a recession (typically by an average of about 16 months). This week, an inversion in yields between 3-year and 5-year Treasury bonds had worrywarts heading for the hills. The focus on an obscure, much narrower 3–5 year interest-rate spread rather than the benchmark 2–10 spread (which has not inverted) is another example of commentators making news out of nothing.

According to a new paper from the Federal Reserve Bank of St. Louis, inverted yield curves  do not forecast recession, but simply project conditions in which a recession becomes more likely. Those conditions: A slowdown in economic growth, not a reversal of it. And after three quarters in which corporate earnings have grown at 20% and the economy has expanded at between 2.2% and 4.2% (in part owing to a corporate tax cut), it’s by no means a stretch to think that growth will slow.

The difference between forecasting a recession and forecasting an economic slowdown is key. This week’s inversion of a small section of the yield curve may be bullish for those with bearish inclinations, but the reality is that the U.S. economy remains quite far from a recession.

What the bears are missing is data showing that the economy is just fine. Employers added 155,000 new jobs in November—the 98th consecutive month of increased payrolls. A service sector report this week showed the second-strongest reading in 13 years. Consumer confidence remains high, and the first few post-Thanksgiving days of holiday shopping suggest a strong season in store for retailers.

Our simple take: Soundbites from policymakers here and abroad have spooked traders with a host of uncertainties. Long-term investors are in the enviable position today of being able to pick up some good values as stock prices fall.

Looking Ahead to Job Openings, Inflation and Retail Sales

 Next week brings relatively little data to pore over, though we will get useful reads on job openings, inflation and retail sales. Lacking a raft of hard evidence, expect event-driven news to continue to compel traders’ behavior. 

If you’d like to learn more about our tactical or fundamental strategies, please contact Steve Johnson at 844-587-7393 or info@bravercapital.com.

Please note: This update was prepared on Friday, December 7, 2018, prior to the market’s close.

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