“Someone is getting the information before you. Why don’t I fire you and hire them?” Those are some of the (thankfully few) harsh words I ever heard from Stevie Cohen in my time at SAC. Ultimately everyone had the same job in “the room”: be first with market moving information. No one heard this threat twice; either you improved or you were out.
So when US stocks suddenly rolled over last Tuesday, I assumed someone knew something. News of the arrest of Huawei CFO Meng Wanzhou in Canada broke a day later on Wednesday evening, even though she had been taken into Canadian custody over the weekend. That clearly provided enough time for the event to filter through and start to hurt US stocks before the headlines crossed. That US markets were closed on Wednesday likely gave Tuesday’s in-the-know sellers some sense of urgency as well.
Information asymmetry of this magnitude amplifies volatility, and all the more so when markets are already stressed. Buyers go on strike, fearing markets are starting to discount news that hasn’t crossed the wire yet. Sellers want to get their trades done ASAP for the same reason. This is not a recipe for bullish market action, and we expect more volatility this week.
At the same time, we do want to take a few moments to play the bullish contrarian even as US equity markets whipsaw. It is always easy to embrace the dark side of bearishness when asset prices falter. But just as “faint heart never won fair lady”, fear is as impotent as hope when it comes to investment strategies.
Here are 6 bullish arguments to consider:
#1. The S&P 500 is 2% away from its 2018 lows, but has not yet made a new low for the year. The actual nadirs for 2018 were: 2581 on February 8th and 2582 on April 2nd. The same no-new-lows-yet is true for the NASDAQ Composite and the S&P Small Cap 600. Only the Russell 2000 has set a new 2018 low, and that just came on Friday.
Conclusion: even in the current selloff, markets do not yet fully embrace the notion that trade wars/interest rates/US economic growth are in a materially worse place than earlier this year. That cuts both ways, to be sure, but it is a sign that some hope remains as dry tinder for a rally.
#2. Chinese equity markets have been stable since mid October. Both the Shanghai Composite and Honk Kong Hang Seng are at similar levels to those when the latest trade war concerns bubbled up at the start of Q4.
Conclusion: Asian investors may have already discounted a worst-case scenario for the current trade war narrative, so perhaps US stocks have done the same. The one fly in this argument: European stocks (German DAX, French CAC 40) have recently broken to new 2018 lows, highlighting concerns over a 2019 recession in that region.
#3. US corporate earnings could still post a small increase in 2019. FactSet was out with an interesting analysis on Friday on this count, using Wall Street consensus estimates for next year. Here is their take:
- Looking at the last 20 years, they found that analysts tend to overestimate forward-year earnings by 3.5% (excluding “surprise” or cataclysmic recession in in 2001, 2008 and 2009).
- At present, Wall Street is looking for $176.51/share for the S&P 500.
- If the non-surprise/deep recession average overestimation rate comes to pass, that means the S&P should still earn $170.38, still higher than this year’s $162.42.
- Whole report here: https://www.factset.com/hubfs/Resources%20Section/Research%20Desk/Earnings%20Insight/EarningsInsight_120718.pdf
Conclusion: even with Wall Street’s notorious penchant for optimism washed out of the numbers, 2019 may still be a good one for corporate earnings.
#4. Federal Reserve policy is less of a risk factor. Between Chair Powell’s recent NY Economics Club speech and a Wall Street Journal article late last week, the Fed is now signaling a go-slow policy for interest rates. Fed Funds Futures now give 60% odds the Fed is on the sidelines through June 2019 after it raises rates (as expected) next week or rates even end up where they are today. A month ago those odds were just 23%.
See the latest odds here: https://www.cmegroup.com/trading/interest-rates/countdown-to-fomc.html
Conclusion: “don’t fight the Fed” works both ways, so as the US central bank climbs down from a message of higher rates that should help US/global equities. And don’t forget: we have a press conference FOMC meeting next week…
#5. 10-Year Treasury yields no longer threaten US equity valuations. Rates here have declined from early November highs of 3.23% to 2.86% today. Inflation expectations factored into Inflation-Protected notes are now the lowest of 2018, signaling that this decline in rates may have further to run.
Conclusion: lower long-term rates help support 2019 economic growth prospects and also help push capital into equities.
#6. The dollar now appears to be range bound after appreciating from April to October. The DXY Index is down 0.9% from its mid November highs of 97.54. The offshore yuan has backed away from the 7.0 level (an all time low) of late October to 6.89 now.
Conclusion: with 37% of S&P revenues coming from non-US sources, a stable/weaker dollar would be an earnings tailwind for 2019.
Final thought: these points admittedly whistle past the graveyard of trade war concerns. Also, they are not “catalysts” – those catchy headlines that move markets like the arrest of a senior Chinese executive. But they do highlight that all is not lost just yet.
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