January 15, 2019
Last year was marred by two major selling panics – in late January and December – which particularly punished investors who blindly sold ETFs during those panics. During 2018, SPY – the largest and most liquid ETF, one which supposedly tracks the S&P 500 – declined 20.4 during market hours, but rose 13.3% after market hours, according to researchers at Bespoke Investment Group (BIG). How can that be? This would not be possible with a highly-liquid stock, but this 33.7% performance differential for the largest and most liquid ETF exposes how individual investors that panic during market hours got fleeced.
The good news is that these excessive ETF premiums or discounts have finally “normalized.” This should help to restore investor confidence in the upcoming months. (For more on how this works, see Ivan Martchev in MarketWatch, “This is how some ETFs are run like a shell game scam,” June 27, 2018.)
Treasury yields have also “normalized” a bit in the wake of December’s strong payroll report. I am carefully watching the Treasury auctions as the bid-to-cover ratio has tightened up a bit to 2.5 vs. 2.8 when yields were falling, so Treasury yields have meandered a bit higher. However, the big news on the Treasury front is that the Fed is “data dependent” once again, so the fear of an imminent interest rate hike has diminished. Specifically, the Federal Open Market Committee (FOMC) minutes, released on Wednesday, revealed that “many participants expressed the view that, especially in the environment of muted inflation pressures, the FOMC could afford to be patient about further policy firming.” The FOMC minutes went on to state that they have “some latitude to wait and see” how the data develops.
I should add that Boston Fed President Eric Rosengren on Wednesday said that the recent decline in asset values (the recent drop in stock prices and the housing market) could cause economic growth to slow, which would reduce any need for future interest rate hikes. Rosengren also added that financial market sentiment has been “unduly pessimistic.” I should also add that Rosengren is one of three new voting members that have been added to the FOMC this year. The other new voting members are Chicago Fed President Charles Evans and St. Louis Fed President James Bullard, both of whom are outspoken doves.
The Market Recovery Has Coincided with the Partial Government Shutdown
Another wild card is the partial government shutdown. After Tuesday night’s Presidential Address, it is apparent that the partial shutdown will continue until President Trump and House Majority Leader Nancy Pelosi resolve their differences. Right now, this rift has become a big game of “chicken” to see who will “blink” first. Majority Leader Pelosi is now arguing that the federal government should be reopened before negotiations continue. Despite the fact that many federal workers and contractors are not getting their paychecks, which may soon adversely impact retail sales, the stock market does not seem concerned.
The federal government showdown is expected to spread to the federal court system next week, so it will be interesting to see how all this ends. In the meantime, the stock market remains oblivious to the federal government shutdown and has not yet been adversely impacted. By the way, despite a delay in federal income tax refunds due to the shutdown, we still have to pay estimated quarterly taxes by January 15.
Thanks to the partial government shutdown, there was not a lot of economic news released last week, but a private company, the Institute of Supply Management (ISM), reported that its non-manufacturing (service) index slipped to 57.6 in December, down from a robust 60.7 in November, to the slowest pace in the past five months. This deceleration in the ISM service index was not a surprise, since economists were expecting a reading of 58.4. Any reading over 50 is still considered an expansion, so the service sector continues to expand at an impressive pace, just a bit slower. The new orders component actually rose slightly to 62.7 in December, which is a good sign that the service economy remains healthy.
The Labor Department was kind enough to announce last Friday that its Consumer Price Index (CPI) declined 0.1% in December, the first decline in nine months. The core CPI, excluding food and energy, rose 0.2% in December, since it factored out the 3.5% decline in energy prices. In the past 12 months, the CPI and core CPI have risen 1.9% and 2.2%, respectively. The fact that the CPI is right around the Fed’s 2% inflation target should allow the Fed to be “patient and flexible,” which Fed Chairman Jerome Powell assured the Fed would be during an interview on Thursday at the Economic Club of Washington DC.
Finally, the trade talks with China are apparently progressing well, based on preliminary reports. The U.S. has tremendous leverage over China, which is in the midst of an abrupt economic slowdown. The latest casualty of the economic China slowdown are European automakers like Jaguar Land Rover, which announced layoffs for 4,500 workers, representing about 10% of their overall global workforce. Ford (F) also announced that it would lay off European workers and shut down at least one manufacturing plant in France. In the midst of this global economic slowdown, I expect that China will be eager to resolve its trade dispute with the U.S. in the upcoming months, and that would be a big boost to the stock market.
Navellier & Associates does not own Ford in managed accounts and or our sub-advised mutual fund. Louis Navellier and his family do not own Ford personally.