January 14, 2020
This past week, the fundamental bulls passed the torch to the momentum bulls in a melt up for the major averages fueled by converging forces. Even a serious geopolitical crisis in Iran/Iraq had almost no effect on what is nothing short of a global directive to own U.S. equities. Sure, other markets are catching fire on the tailcoats of U.S. leadership – but the biggest fund flows are targeting American stocks and ETFs.
The resultant effect of killing General Soleimani and the subsequent intentional fireworks show by the Iranian ruling party exposed real fear to the eyes of a watchful global military complex and stocks roared higher as a result. Hopefully, Iran will elect to step into the 21st century and negotiate a peace treaty, assuming internal circles of influence can win over the hardline Shi’a Muslim leadership. Sadly, I don’t see this as an outcome, so further confrontation with this backward regime is highly probable.
At the same time, the market has seemed to make up its mind that the U.S. will take care of business if Iran provokes further aggression, and it would be remiss to disregard the fact that North Korea’s Kim Jung Un is carefully monitoring the situation as well. All this comes right in front of a Phase 1 signing scheduled for January 15, where it is widely believed China will sign and not bail, as they did previously.
I noted last week how China is undergoing serious structural issues. For the first time in 25 years, their Communist Party is concerned. What will a second term with Donald Trump mean to their economy and their global ambitions? The same trepidation is also being felt in the ivory halls of the globalist-driven European Union, which is also facing rising populist resistance, and in my view, rightfully so.
Note to the Bears – Don’t Fight the Fed
The U.S. stock market has embraced a Fed that is reflating its balance sheet through the repo market to support economic expansion. Last Thursday, the Fed reported that its balance sheet had risen to $4.17 trillion as of January 1, up 10% from $3.8 trillion last September. The Fed has been adding substantial amounts of liquidity to markets to ensure that the federal-funds rate stays within its current 1.50%-to-1.75% target rate, and that other short-term rates don’t see unwanted amounts of volatility.
To this end, the upward trend of the S&P 500 is highly correlated with the increase in Fed repo activity. Fed Chair Jerome Powell has publicly stated that repo operations will continue through September 2020, and investors have seized on this equation – along with a falling dollar that favors multinational earnings growth, a big pop in ADP private payroll jobs and a solid December ISM report of 55, the highest reading in four months, which signals stronger forward GDP growth.
These combined forces, coupled with sub-2% inflation, steady bond yields, further stock buy-backs, few significant IPOs and increased M&A activity, is a recipe for a higher market, regardless of near-term valuations. It’s simply the path of least resistance and it is why the respected economist Ed Yardeni’s year-end prediction for the S&P to hit 3,500, might happen before Easter Sunday.
Louis Navellier mailed me a copy of Ed Yardeni’s book, “PREDICTING THE MARKETS” this past week, and as a long-time Yardeni aficionado, I’m looking forward to a good read. But as Ed has long predicted, the market is at risk of entering a classic “melt up” phase that could push stocks into rarified air in a hurry, which raises the risk of a hard pull-back of 10% or more.
I think last Friday’s price action took some of this investor enthusiasm into account, but also showed that any corrections during this run up will be shallow and well contained as long as there are no “black swan” headlines. Investors could also be facing another classic scenario of seeing stocks bid up into earnings season, only to be “sold on the news,” unless the numbers just blow away Wall Street estimates.
This week is the official kickoff week of earnings season with the money center banks leading the way. As financials have been a favorite go-to sector for the past two months, they will have center stage to prove the recent gains are warranted. J.P. Morgan (JPM), Citigroup (C), Goldman Sachs (GS), Bank of America (BAC), BlackRock (BLK), PNC Bank (PNC), U.S. Bancorp and Wells Fargo (WFC) all report on Tuesday and Wednesday. How these stocks trade will set the tone for the reporting season.
Navellier & Associates does not own J.P. Morgan (JPM), Citigroup (C), Goldman Sachs (GS), BlackRock (BLK), PNC Bank (PNC), U.S. Bancorp and Wells Fargo (WFC) in managed accounts but does own Bank of America (BAC),. Bryan Perry does not own J.P. Morgan (JPM), Citigroup (C), Goldman Sachs (GS), Bank of America (BAC), BlackRock (BLK), PNC Bank (PNC), U.S. Bancorp and Wells Fargo (WFC) in personal accounts.
What seems certain is that the bull trend is intact. It might be running a bit hot and ahead of fundamentals, but only because the level of confidence is on the rise – and that’s a good thing. The world is awash in cash, money markets and short-term fixed-income instruments. What does that mean, in real terms?
“The U.S. Federal Reserve reports that at the last count, everyone across the financial system, from grandmothers to hedge funds, was holding a total of $2.9 trillion in overnight money market funds, $4.4 trillion in checking accounts and currency and another $12.1 trillion in savings accounts and Certificates of Deposit. That comes to $19.4 trillion in gross ‘cash’ and equivalents that is ‘on the sidelines’ of the stock market. Meanwhile, says the Fed, the total market value of all U.S. stocks at the same time came to $41.7 trillion.” – MarketWatch, January 6, 2020
I’m not saying that all this cash will find its way into stocks, but when there is almost 50 cents in cash for every $1 in equities, the odds are very good that if the data improves, the path of least resistance is higher.
Bryan Perry is a Senior Director with Navellier Private Client Group, advising and facilitating high net worth investors in the pursuit of their financial goals.
Bryan’s financial services career spanning the past three decades includes over 20 years of wealth management experience with Wall Street firms that include Bear Stearns, Lehman Brothers and Paine Webber, working with both retail and institutional clients. Bryan earned a B.A. in Political Science from Virginia Polytechnic Institute & State University and currently holds a Series 65 license. All content of “Income Mail” represents the opinion of Bryan Perry
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