New Signs of Deflation

New Signs of Deflation Explode Worldwide

by Louis Navellier

February 17, 2016

*All content in the Marketmail Introduction is the opinion of Louis Navellier of Navellier & Associates, Inc.*

World Map ImageAs I have repeatedly said here, deflation is spreading worldwide as more central banks embrace negative interest rates, and then push rates lower. Last Tuesday, Japan’s 10-year bond yield fell below 0% and no one knows just how much farther negative interest rates may plunge. Last Thursday, Sweden’s Riksbank lowered its key interest rate to -0.5% from -0.35%. Even more disturbing, last week’s sell-off in major French and German banks was an ominous sign that Europe’s credit problems are not limited to Italy.

The signs of deflation are everywhere: Crude oil hit a 13-year low last week before staging a big short-covering rally on Friday. On Tuesday the International Energy Agency warned that Iranian and Saudi Arabian crude oil output is higher than expected. Coming on top of the global crude oil supply glut, this makes it likely that crude oil prices will remain soft. On Thursday The Wall Street Journal (in the “Heard on the Street” column) revealed that the Cushing, Oklahoma storage facilities were near capacity. That spooked the stock market, with the S&P 500 touching an intraday low of 1810 before recovering to 1865 Friday.

On Wednesday, Fed Chair Janet Yellen appeared before the House of Representatives and signaled that the Fed is monitoring the growing risks to the U.S. economy. Specifically, Yellen said that financial conditions “have become less supportive to growth,” but added that the U.S. economy should continue to expand. When Yellen said, “monetary policy is by no means on a preset course,” she effectively implied that the Fed will not raise key interest rates anytime soon. Furthermore, Yellen admitted that inflation remains suppressed, which means that the Fed does not have to raise rates to fight any mythical inflation.

When questioned about negative rates, Yellen implied that the Fed is not ready to implement negative rates, due partially to the fact that it may not be legal in the U.S. On Thursday before the Senate, Yellen implied that the Fed was not responsible for the stock market’s recent woes and stressed that monitoring the stock market was “not mainly our policy,” but she also admitted that the stock market may impact the economy. Overall, she was very dovish, implying that the Fed would most likely to do nothing in March.

In This Issue

Over the Presidents’ Day weekend, my colleagues and I had an extra day to reflect on the wildness of the markets so far this year. In Income Mail, Bryan Perry compares the actions of some private bankers to the waffling words of the Fed Chair. In Growth Mail, Gary Alexander tries to find the “least bad” outcome (market-wise) of this dismal collection of Presidential candidates. In Global Mail, Ivan Martchev charts the surprising surge in the yen and the deflationary implications of a possible devaluation in the yuan. In Sector Spotlight, Jason Bodner examines the drop in some once-favored sectors and the short-covering rally in the weaker sectors. In my concluding segment, I will forego my normal look back at last week’s statistics (“Stat of the Week”) to ask where we might find an oasis in this scary market environment.

Income Mail:
Bankers Show Resolve as the Fed Chair Stumbles
by Bryan Perry
Riders On the Storm

Growth Mail:
The Leading Presidential Candidates Scare Wall Street (and Me)
by Gary Alexander
Market Sentiment is in the Dumpster (That’s Good News)
Presidents “Celebrate” Presidents’ Day with Big Budgets

Global Mail:
The Yen’s Surprising Rally
by Ivan Martchev
Will the Chinese Devalue the Yuan?

Sector Spotlight:
When Black Holes Collide, Time Stops
by Jason Bodner
We Saw a “Sector Reversal” Last Week vs. the Previous 3-6 Months

A Look Ahead:
Where Will the Bears Attack Next?
by Louis Navellier
What Happens After the S&P 500 Dividend Exceeds 10-Year Yields by 50+ Basis Points?

Income Mail:

*All content in "Income Mail" is the opinion of Navellier & Associates and Bryan Perry*

Bankers Show Resolve as the Fed Chair Stumbles

by Bryan Perry

We’re only six weeks into 2016 and it already feels like six months in a bear cave.

This past week saw some not-so-reassuring events unfold within the bond market. For a brief moment, the U.S. 10-year Treasury Note traded with a yield of only 1.57%, a level not seen since late 2012. A confluence of large unknowns enveloped investor sentiment, punctuated when WTI crude took out the recent lows last Thursday and fell to $26.21 per barrel before a headline crossed the tape that Wall Street Journal OPEC correspondent Sumner Said quoted the UAE energy minister saying that “OPEC is ready to cooperate on a cut, but current prices are already forcing non-OPEC producers to at least cap output.”

This market lives and dies by such headlines. This tweet and two other market-moving headlines crossed the tape not a moment too soon. Coupled with the Journal’s OPEC tweet, JPMorgan CEO Jamie Dimon announced that he was buying $25 million of his company’s stock in the open market and Deutsche Bank broke a story that they are buying back $5 billion of their own senior unsecured debt.

Though sharp declines in bank share prices are jarring to executives as well as investors, what really gets the attention of the bank front office is a sudden climb in funding costs, as this Journal comment shows:

“The market for these credit default swaps is significantly less liquid than it was in 2008. But these swaps still play an important role as indicators of the riskiness of a company’s debt. And Deutsche’s cost of protection against default has rocketed, rising by more than 150% from mid-January to this week before reports of the buyback plan emerged.”

– Wall Street Journal, February 12, 2016: “Deutsche Bank: What’s Behind Its Bond Buyback”

Deutsche Bank’s cost of protection against default hit its highest level since 2011. It dropped back sharply on the bond-buying announcement and then a sigh of relief put a bid under equities. As Europe’s largest bank, DB has been at the epicenter of the market chaos in the banking sector, and though a repurchase of $5 billion is a fraction of the bank’s +$1.7 trillion balance sheet; it calmed a market nearing panic levels.

Last Thursday, at its intraday low of 1810, the S&P 500 was barely 1% above its 200-week moving average at 1790. A break of this key technical support level would open the way lower to 1600 for the S&P, which would most likely take the U.S. 10-yr T-Note back down to test the July 2012 low of 1.39%.

Large Cap Index Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

The confluence of these headlines sparked buy programs and short-covering that took the Dow Industrials from a decline of 411 points to -145 before settling at -255 points Thursday and +313 Friday. This bounce back was just what a wounded market needed, at least temporarily. Oil prices rallied 8% in early trading on Friday taking WTI crude back up to $28/bbl, while equities in Europe and the U.S. found a reprieve in the form of guarded buying. However, markets have been at this crossroad before, trading up on a hopeful headline only to be suckered in by just another false rally attempt when the story doesn’t pan out.

In the following 5-year chart of 10-yr T-Note rates, the dramatic fall from a 3.0% yield at the end of 2013 (“30” on the chart) to 1.57% last week is a stunning development and shows clearly that the move by the Bank of Japan (BOJ) to adopt a negative interest rate policy on January 29 set off alarm bells. Investors have been willing to give the European Central Bank (ECB), Bank of Japan, and the Peoples Bank of China (PBOC) the benefit of the doubt as they have all promoted the raising of QE levels to address slow growth, emerging markets, and commodity exposure; but that credibility is now being called into question.

Ten Year Treasury Note Rates Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Fed Chair Janet Yellen’s performance on Capitol Hill last week was a demonstration of “leading from behind.” Despite the elevated risks of a global downturn, the Fed expects the domestic economy to keep chugging along. She didn’t close the door to rate increases, but the bond market is betting the Fed will not move before 2017. While the Fed Chair was delivering a relatively upbeat assessment to the Senate Banking Committee, investors were dumping stocks and funneling money into Treasuries and gold.

Yellen went on to state that she and her colleagues at the Fed were surprised by the strength in the dollar after the decision to raise short-term rates in December. Really? If every major central bank outside the U.S. is devaluing their currencies, flooding the market with liquidity, and the largest central bank in the world is raising interest rates, then how could this body of so-called elite economists and bankers get this scenario so wrong? This is like the Queen Mary showing up in your backyard, unnoticed and ignored.

In her first day of testimony to the House Financial Services Committee, Ms. Yellen said the Fed did not intend to cut rates back to zero and played down the possibility that the Fed would seek to provide new stimulus by imposing negative interest rates. On Day 2, at the Senate, with the DJIA in the midst of a 700-point sell off (The Dow fell from 16,202 early Wednesday to 15,503 at Thursday’s low), she was slightly less dismissive, saying the Fed was reviewing that option. She capped off her “out of touch with reality” commentary by reiterating the Fed’s oft-repeated, always-wrong position that it was necessary to raise rates to maintain control of inflation as job growth continued.

News flash! The U-6 unemployment rate (which includes total unemployed, plus all persons marginally attached to the labor force, plus total employed part-time for economic reasons, as a percent of the civilian labor force), as released by the Bureau of Labor Statistics for January, stood at 9.9%. The country’s labor force participation rate – which measures the share of Americans 16 years old and above who are either employed or actively looking for work, dipped last month to a 38-year low of 62.6%.

United States Labor Force Participation Rate Chart

The U.S. bond market is among the biggest financial markets in the world, with $39.5 trillion outstanding at mid-2015, according to the Securities Industry and Financial Markets Association. This is equivalent to 1.5 times all U.S. stock markets and nearly twice the aggregate of the five largest foreign stock exchanges according to SIFMA. When the U.S. bond market makes a dramatic move, as we have just seen, there is a big-time message that underscores such a sudden drop in yields. That message is that the Fed is behind the curve and the negative interest rate policy of several developed economies raises a yellow caution flag about the size and scope of any unforeseen risk that investors fear will be made known in the near future.

On the topic of negative interest rates, former Dallas Fed President Robert McTeer stated in a CNBC interview (February 12: “Former Dallas Fed President Calls Out Central Bankers”) that negative rates are not an option because the Fed has adopted a new mechanical procedure for establishing the Fed funds rate (the interest rate that banks use to calculate overnight loans to other institutions). That rate currently calls for positive returns on bank deposits. McTeer believes that if the Fed tries to go negative, it would take years to re-work the system. McTeer has been a critic of the Fed's ultra-loose monetary policy, which he previously argued stayed too low for too long. McTeer further believes that the Fed’s delay enabled other central banks—from Japan to the ECB—to enact negative rates, a policy with which he disagrees.

This 3-year chart of the PowerShares DB US Dollar Index Bullish Fund (UUP) shows the dollar coming off the 2015 highs in anticipation of the Fed forestalling any further rate increases. Shares of UUP seek to track the price and yield performance, before fees and expenses, of the Deutsche Bank Long US Dollar Futures index. The index is comprised solely of long futures contracts designed to replicate being long the dollar against the euro, Japanese yen, British pound, Canadian dollar, Swedish krona, and Swiss franc.

(Please note: Bryan Perry does not currently hold a position in UUP. Navellier & Associates does currently own a position in UUP for some client portfolios.)

Power Shares United States Dollar Index Bullish Fund Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Riders On the Storm

In my opinion, rotation into blue chip equities with a strong history of dividend growth is the most formidable strategy to garner two times what the 10-yr T-Note is yielding while leaving room for capital appreciation. With the bond market voting hands down that the Fed will wait it out on future interest rate increases, the dollar has come way off its recent highs, retreating almost 9% from the pre-FOMC meeting December high. This pullback is a bullish development for U.S. multinational companies, whose profit margins have been negatively impacted by the strong greenback ever since the Fed ended QE back in October of 2014.

With foreign economies retrenching, investors seeking to add blue chip multinational exposure to their portfolios should focus on consumer staples, which tend to resist recessionary pressures and market downturns by providing products that are essential to everyday life while offering dividend yields of 3% or more. Top names that fit this profile include Johnson & Johnson (JNJ) and Proctor & Gamble (PG). Both companies reported fourth-quarter results that exceeded Wall Street estimates at a time when the dollar was still trading at the high end of the range.

(Please note: Bryan Perry does not currently own a position in JNJ or PG. Navellier & Associates, Inc. does currently own positions in both JNJ and PG for some client portfolios.)

With the dollar in retreat – to what level and for how long is anyone’s guess – first quarter 2016 earnings may offer investors a nice upside surprise with income along the way. In addition, when global growth finally reaccelerates (no promises here), playing the rebound via American multinationals appears to be a safe way to participate. Let the deep benches of these global companies represent your interest in foreign markets, both developed and emerging. They’ve got it way more figured out than you and I could ever wish to.

Growth Mail:

*All content in "Growth Mail" is the opinion of Navellier & Associates and Gary Alexander*

The Leading Presidential Candidates Scare Wall Street (and Me)

by Gary Alexander

“The rise of outsider Presidential candidates Donald Trump and Bernie Sanders is more than a fascinating political story…Investors have every right to be nervous about what is playing out on the campaign trail.”

--Barron’s, February 15, 2016: “Trump, Sanders: Are They Killing the Market” by John Kimelman.

Happy Presidents’ Day! As we celebrate the birthdays of George Washington and Abraham Lincoln, let us ponder the scary thought that our next President might be named Trump, Clinton, Cruz, or Sanders.

Last December 22, I wrote about how the leading candidates (Trump and Sanders) were selling a bogus brand of negativity to the voters. I disputed Trump’s claim that “America doesn’t win at anything anymore” and Sanders’ claim that the “middle class is disappearing.” Since then, Sanders has said, “the business model of Wall Street is fraud,” and Trump called any future President that stops torture at just waterboarding … a vulgar word for a coward. These old curmudgeons just seem to get stronger in the polls after saying such things, as reflected by their 20-point victory margins in New Hampshire last week.

Most analysts are blaming the current market malaise on the low price of oil, or the slowdown in China, or negative interest rates or other economic factors; but I believe a lot of the negativity sweeping our land is the prospect of a President Trump, Sanders, Cruz or Clinton. On January 19, I stated that 2015 was the worst pre-election market year since 1939, due in large part to the pessimism of the leading candidates.

In the current Barron’s (February 15, “Trump and Sanders: Are They Killing the Stock Market?), I found some statistical basis for my campaign analysis. Author John Kimelman agrees with me that “many market pundits are too focused on the latest Chinese economic data, oil-price movements, or negative-interest-rate chatter to connect the dots between the presidential-primary results and the stock indexes.

This chart indicates a decline in the S&P 500 following every significant poll rise by Trump or Sanders:

Bernie and Donald versus the Market Chart

Barron’s quoted Jim Paulsen, chief investment strategist with Wells Capital, as seeing “apprehension about an oddball candidate as president on the global stage,” while economist Ed Yardeni adds, “The possibility of a maverick becoming the next president has to be unsettling for investors.” While these mavericks may turn out to be more moderate once elected, their current rhetoric scares many traders.

Democratic candidate Sanders sounds like he wants to punish Wall Street for not going to jail after the last crash. He paints nearly a million financial professionals (all those who work on Wall Street or try to profit from stocks) as living a life based on “fraud.” I tend to take that personally. I don’t think mistakes of judgment are criminal; neither do I think investors were force-fed Collateralized Debt Obligations!

Meanwhile, Republican leader Donald Trump is promising to alienate nearly every major trading partner – starting with China and Mexico – while Democrat Hillary Clinton is campaigning like a “Sanders Lite.”

Market Sentiment is in the Dumpster (That’s Good News)

The latest market correction has analysts talking about a repeat of 2008, but we haven’t even reached the levels of the 2011 correction. In 2011, the S&P 500 fell 21.5%, from 1370 on May 2 to 1075 on October 4.  Since last May, the current S&P correction is only 14.2% on a closing basis, or -15.2% intraday.

The 2011 correction was also based on fears about bad leadership in our government. It resulted from a showdown in Washington DC over a debt ceiling debate in early August, including a downgrade in U.S. sovereign debt by Standard & Poor’s. That was followed by talk of a “fiscal cliff” and “sequestration.”

Investors are more pessimistic now than at any time since the last two market bottoms in 2009 and 2011. Last Thursday, economist Ed Yardeni reported that “The Investors Intelligence Bull/Bear Ratio (BBR) tumbled to 0.63 this week (the lowest since March 2009) from 0.89 last week – the fifth straight reading below 1.00.” In addition, he wrote, “Bearish sentiment climbed to 39.2% (the most bears since October 2011) from 38.1% and 35.4% the prior two weeks.” (February 11, 2016: “Waiting for the Other Shoe.”)

Today’s gloom resembles that of the market bottoms in 2009 and 2011: The S&P 500 bottomed at 676.53 on March 9, 2009, and then at 1074.77 intraday October 4, 2011. The market could go lower, but today’s super-bearish sentiment tells me that the market may be oversold at these extremely low bullish levels.

Presidents “Celebrate” Presidents’ Day with Big Budgets

The Budget and Accounting Act of 1921 requires the President to submit his proposed federal budget to Congress by the first Monday in February. In recent years, the budget has usually been submitted right before Presidents’ Day. Last Tuesday, President Obama presented his eighth and final budget, this one for Fiscal 2017, beginning October 1, 2016. He calls for $4.1 trillion in spending next year and $2.8 trillion in tax increases over the next decade with massive increases in funding for green energy and infrastructure.

The 2017 budget proposal brings us full circle from President Obama’s first financial extravaganza. It was seven years ago today, on Tuesday, February 17, 2009, that the new President Obama signed into law the largest spending bill in U.S. history, the $787 billion bailout that authorized a variety of “shovel-ready” projects that didn’t turn out to be so ready, or necessary. That was followed by “cash for clunkers” and a second stimulus package, pushing the federal deficit over a trillion dollars in each of his first four years.

Federal Budget Deficit Table

Incoming Presidents like to propose an avalanche of new bills in their first 100 days, but we simply can’t afford the government we already have, much less any massive new programs like those promised by the leading candidates. For instance, Socialist Sanders promises an array of highly expensive wealth transfer programs at the expense of the rich (who will become far less rich if the stock market tanks and their taxes rise). For starters, he wants to see free tuition at public colleges, huge federal building projects, a single-payer national health care system, and an increase in Social Security outlays. Trump wants to incur huge new expenses like building a Great Wall (or two) and finding and deporting millions of immigrants.

Here are a couple of other ambitious first-year Presidential budgets that backfired in the stock market:

On February 9, 1989, new President George H.W. Bush submitted a budget of $1.16 trillion, including a projected $91.1 billion deficit. The DJIA fell the next five days, including a 0.9% drop on this date, and a 1.6% drop on February 10. It got worse. In 1992, he submitted his final budget, proposing a record deficit of $352 billion. This rise in deficit spending contributed to the election of his rival Bill Clinton in 1992.

On February 15, 1993, new President Bill Clinton made his first nationally-televised speech to America. In it, he announced his intention to raise taxes to cap the budget deficit. The next day, the DJIA fell 83 points (-2.4%), as Wall Street was skeptical of this announced tax increase plan plus his wife’s health care reform task force. The market was fairly flat during Clinton’s first two years, until the Republicans gained control of Congress in early 1995. (The market tends to prefer “gridlock” over a “united government.”)

S&P gains in 1993-1994 (President Clinton and a Democratic Congress)    +5.4%
S&P gains in 1995-2000 (President Clinton and a Republican Congress)    +220%

So maybe the least-bad outcome (market-wise) is a Republican Congress vs. President Hillary Clinton (if she can avoid indictment) with hubby Bill in the wings (the old “two for the price of one” trick, revived), or a Republican win by Bush, Kasich, or Rubio, combined with a Democratic Congress (more “gridlock”).

Further back in history, on February 14, 1903, Congress followed the lead of Republican President Teddy Roosevelt and passed legislation to create the Departments of Commerce and Labor, and the Bureau of Corporations. This was another visible symbol of Teddy Roosevelt’s campaign against the “malefactors of great wealth.” While his efforts were popular, they rankled honest business leaders, who felt Roosevelt was waging an unfair fight to limit the size and, more importantly, the profits of big U.S. corporations.

Sound familiar?

Global Mail:

*All content in "Global Mail" is the opinion of Navellier & Associates and Ivan Martchev*

The Yen’s Surprising Rally

by Ivan Martchev

With all the talk of what oil is going to do next and what happens in China in 2016, many observers have not paid close attention to the monstrous move in the Japanese yen in the last two weeks. I think oil is going to go where the Chinese economy goes, as China is the biggest consumer of oil at a time of surging global supply. In a roundabout way, the yen will also go where the Chinese economy goes, as any further complications in the economic situation in China will likely cause more carry trade unwinding and a stronger yen at a time when the Bank of Japan (BOJ) is targeting precisely the opposite – a weaker yen.

United States Dollar versus the Japanese Yen - Daily OHLC Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

When the BOJ moved toward negative short-term interest rates at the end of January, I opined that a strengthening of the yen was possible even though the BOJ was targeting a weaker yen. (See Navellier Marketmail for February 1: “The Short of the Century May Last Quite a Bit Longer”). However, I am rather surprised to see how fast the currency markets humbled the BOJ by delivering a monstrous move in the opposite direction than the BOJ was targeting. To compare the magnitude of the yen move, it is bigger than the August 2015 swoon in the yen that was driven by the Chinese token devaluation. It is also just a bit smaller but comparable in magnitude to the September 2008 yen move when Lehman Brothers failed.

Why does the BOJ want to see a weaker yen?

A weaker yen would help Japan fight the deflation that has been entrenched in Japan for over 20 years. Also, the Japanese stock market, as measured by the Nikkei 225 Index, is notoriously correlated with the yen. While profits for the S&P 500 Index are about 40% from international operations, for many major Japanese corporations in the Nikkei 225 Index the global profit ratio is higher, hence the tight correlation with the yen – the Japanese currency and the Tokyo stock market look almost like a mirror image.

Tokyo Nikkei Average Index Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

The Nikkei moves in a leveraged manner (in greater magnitude) to the yen as the yen affects the value of corporate revenues outside of Japan. Those global revenues have a magnified effect on profits. For instance, a 5% move up or down in the USDJPY exchange rate can mean a 10% move up or down in the profits of a Japanese corporation depending on the level of its profit margins. Obviously, different companies have different leverage to the yen, but since the Nikkei 225 Index is a large-cap index that includes most of Japan's famous exporters, the leverage to the yen is outsized (see chart). So when targeting a weaker yen, the BOJ actually targets a stronger Nikkei 225 Index and a positive wealth effect for Japanese consumers (as perverse as this may sound to hard-money aficionados).

How high can the yen go? (Note: A high yen means fewer yen per dollar on the inverted USDJPY chart.)

I do not believe in setting precise targets as in reality they are an exercise in futility but I do believe that it can go higher even though the BOJ wants it to go lower. Keep in mind that recently-announced negative rates will be imposed on reserves worth about 10 to 30 trillion yen and will apply only to new reserves that financial institutions deposit at the central bank. There are three tiers of BOJ reserve balances that are affected by this so as to facilitate a gradual implementation of the negative interest rate policy. (See Bloomberg, January 29, 2016: “Bank of Japan's Negative Interest Rate Decision Explained.”)

  • Existing balances will continue to have a rate of 0.1%. This will be called the Basic Balance.
  • A rate of zero percent will be applied to reserves that institutions are required to keep at the BOJ, and reserves related to the bank’s lending support programs. This is the Macro Add-on Balance/strong>.
  • A rate of -0.1% will be applied to any reserves not included in the first two tiers. This is the Policy-Rate Balance.

Ten Year Japanese Government Bond Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

This negative-rate central bank maneuver has caused Japanese 10-year government bonds (JGBs) to trade down to -0.03% in yield and in the process become the second 10-year government bond in the world to have a negative yield. (The other is Switzerland, whose rates have been as low as -0.38% recently.)

Global Market for Negative Interest Rate Debt Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

There is $6 trillion of government debt globally right now that trades at negative yields but most of it has been at maturities of five years or lower. The fact that we now have two governmental bond markets that have recently registered negative yield on 10-year bonds is indicative of global deflation, in my opinion.

Deflation happens when too much debt piles on in the financial system and borrowers decide it is in their best interest to de-leverage. Debt-liquidation in an over-leveraged financial system – and the subsequent refusal to increase borrowing – can last for decades. This is certainly the case in Japan, where low and now-negative interest rates are not working in order to promote more borrowing. This was certainly the case in the 1930s in the U.S. And I believe it will be the case in China, whose epic credit bubble is deflating as I write. (See my February 3, 2016 Marketwatch article, “Something Broke in China in 2016.”)

Will the Chinese Devalue the Yuan?

The short answer is Yes.

Chinese forex reserves are flowing out of the country at a rate of $100 billion per month. The reserve totals are typically reported over the weekend once a month, so Saturdays on the day they are reported have become a day that delivers what has become a really important economic number – when the markets are closed. Even though China’s forex reserves stand at $3.23 trillion, as reported by the People’s Bank of China, I do not believe that is enough to maintain the yuan peg as the likely losses from the unravelling credit bubble in China may be considerably bigger than the value of those reserves. Credible estimates for non-performing loans (NPLs) that I have quoted before in this column are 6-20% of total loans and rising. The high end of that estimate wipes out the value of all Chinese forex reserves. This would leave the Chinese government no choice but to devalue by 20-40%. The last time they resorted to such a measure, they devalued by 34% in 1994 as you can see in the chart below.

China Foreign Exchange Reserves

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

The yen is likely to be moved further by a Chinese devaluation. Right now it is appreciating as multiple carry trades are unwinding, even though the BOJ is doing whatever it can to push the yen lower. The unwinding of carry trades is due in large part to the deteriorating situation in China, which has caused multiple economic problems in favorite carry-trade destinations like Brazil.

If the Chinese do devalue – which I believe they will, probably in the next 12 months if not sooner – the yen and the dollar are both likely to go quite a bit higher. Imagine the second-largest economy in the world, with GDP of $11 trillion, having the value of its exports getting cheaper by one-third overnight. What are China’s biggest competitors going to do, other than to try to lower prices in order to survive?

A Chinese devaluation is highly deflationary and will cause more unwinding of carry trades (in the case of the yen) and a bigger safe haven bid (in the case of the U.S. dollar).

Sector Spotlight:

*All content in "Sector Spotlight" is the opinion of Navellier & Associates and Jason Bodner*

When Black Holes Collide, Time Stops

by Jason Bodner

Did you know that the further away from earth’s surface you are, the faster you age? In fact, if two twins were separated at birth and one lived below sea level and the other lived high in the mountains, the twin at the higher altitude would actually age slightly faster than the low-altitude twin.

A funny thing happens to time when you approach a center of gravity. It slows down. If you were to approach a black hole, time would slow immensely as you got closer to it. If you actually survived to make it inside of a black hole, the infinite gravity would cause time to stop completely. Another property of a black hole's immense gravity is that it consumes everything in its path. The black hole is nature’s Hotel California: You can check in any time you like, but you can never leave... (Cue epic guitar solos).

It seems fitting to discuss black holes as Albert Einstein was vindicated yet again last week when it was announced that evidence of his predicted gravitational waves from black holes colliding was detected. Apparently it even has a sound... the hissing sound of this phenomenon is like the reverse of a water droplet. It helps remind us that the markets are only a small part of daily life and perhaps there are more important things to worry about. But then again, there seems to be a black hole lurking in the market.

Albert Einstein and Dollar Black Hole Image

The dour mood of the market seems endless. The black hole of doom has consumed energy prices – first the stocks of energy companies, and then their ability to sustain or even pay a dividend. The gravitational pull of fear of a credit crisis has now sucked in banks and financials. What is the next sector or group teetering on the edge of the abyss? Growth names with high multiples are being devoured by the black hole as growth multiple premiums are now targets for punishment. It's interesting to note that as the black hole chomps away at equity values, time has seemed to slow. Time hums along when the market is in a smooth uptrend, but now that Mr. Market has pointed the trend downward, time has slowed to a crawl.

This past week was another wild one, with volatility attacking stock values worldwide. Oil continues to suffer massive swings, jerking the market around with it. Friday’s 10% short-cover rally in crude was evidence that unpredictability is becoming predictable. Looking at the sector level, pain continues to be intense in financials. Big money banks have been notably soft as credit and capital reserve stability rumors act more like tumors. The buying we saw last Friday does not have the feel of major institutions deploying capital, which would be a positive sign for the market. Instead, Friday’s rally has the distinct feel of a risk-reduction short-covering rally into a long weekend.

We Saw a “Sector Reversal” Last Week vs. the Previous 3-6 Months

Last Week, Utilities, which had been the leading sector for weeks, became the weakest. Financials, as we can see in the second table, were down near 6.5% for the week until its Friday surge of just over 4%. Consumer Staples held the dubious distinction of being the only positive sector for the week. Health Care performed relatively well as did Information Technology, which has been punished recently.

The market’s most popular “long” of the past few weeks has performed weakly while our weaker sectors of late performed reasonably well last week. This role-reversal feels like a “let’s reduce risk for the long weekend” scenario. The market’s inability to hold a bid, coupled with Friday’s strong performance in some notably weak areas, does not inspire confidence that this reversal was the final shoe to fall.

Standard and Poor's 500 Weekly Sector Indices Table

With energy hogging the headlines for what seems like the past year or more, it may surprise you to know there was in fact a weaker sector to perform for the past 3- and 6-months. Financials have out-shamed Energy in both a 3-month (-16.67%) and 6-month (-23.20%) basis, while Telecom and Utilities have been the best performers of the same time periods.

Standard and Poor's 500 Monthly Sector Indices Table

Standard and Poor's 500 Sector Daily Area Charts

A century ago, Einstein predicted the occurrence of what was confirmed last week: gravitational waves. Will the market be as prescient as Einstein, accurately predicting the downfall of banks and a new credit crisis? Or is it simply an overreaction on a mass scale? Prior periods of economic uncertainty have bred intense stock market reactions. They have all seemed like overreactions from our now-lofty perch, even after this intense sell-off. This period we are currently going through may continue to seem intense and even painful. It may persist as the market’s black hole exudes more and more influence on equities. But eventually the volatility will subside. The market will stabilize, and leadership will emerge again.

When we think about the excessive valuation of the FANG bubble, which has unceremoniously burst, a great quote comes to mind: “Excess generally causes reaction, and produces a change in the opposite direction, whether it be in the seasons, or in individuals, or in governments.” This quote was not said last week, last year, nor even last century. Those words were uttered over 2,400 years ago by Plato.

Clearly his words also apply to today’s markets.

A Look Ahead:

*All content in this "A Look Ahead" section of Market Mail represents the opinion of Louis Navellier of Navellier & Associates, Inc.*

Where Will the Bears Attack Next?

by Louis Navellier

Black Hole ImageOn Thursday, Japan and Europe sold off sharply and that selling pressure carried over into the U.S. markets. The major energy and money center banks that led the market sell-off are effectively falling into the “black hole” that deflation created. There is no doubt that black holes are scary, especially when they spread into more industries, like major money center banks. However, since the S&P 500 yields more than the 10-year Treasury bond, which is now at the lowest level since 2012, the stock market should bounce soon. I am looking for stocks characterized by buy-backs and dividend growth – which exhibited relative strength during the big sell-off on Thursday – and I also recommend gold and Treasury securities.

The truth of the matter is that deflation cannot be solved by relentless money pumping and negative interest rates, so central banks are effectively out of tools to fix the problem. As fears of negative interest rates spread, deflation continues to spread to more asset classes. Now that deflation has spread from commodity-related companies to financial stocks, how many other sectors can deflation encompass?

We are now at a record divergence between the S&P 500’s dividend yield and the 10-year Treasury bond yield. The S&P 500 now has a 2.33% annual dividend yield, while the 10-year Treasury bond yields only 1.74%, for a spread of 59 basis points. Historically, whenever the S&P 500’s annual dividend yield is more than 50 bps higher than the 10-year Treasury bond yield, it has sparked a big rally in the S&P 500.

Last Tuesday (in “S&P 500 Dividend Yield vs. 10-Year Treasury Yield”), Bespoke Investment Group studied every time in the last 50 years that the S&P 500 dividend yield has topped the Treasury yield by 50 basis points or more. It has happened three times, all recently, with significant market gains to follow.

Standard and Poor's 500 versus Ten Year Treasury Yields Table

On Friday, Bespoke added (in “Thirty-Year Yield vs. S&P Dividend Yield,” February 12, 2016): “In yesterday’s intraday Treasury rally, we saw something even more uncommon occur where the yield on the 30-year U.S. Treasury briefly dropped below the dividend yield on the S&P 500,” adding this:

“…going back to 1977 (when data on the 30-year begins), the only other time that the S&P 500 yielded more than the 30-year was in the depths of the financial crisis from November 2008 through March 2009! When you get a situation where investors are willing to accept less in coupon from a security that offers no upside if held for the next 30 years than the S&P 500 over that same time period, it says that either sentiment is very negative, investors expect long-term equity returns to be severely depressed, and/or future dividends to be lower than they are now.”

A third Bespoke analysis I want to quote is “2016: High P/E Slaughtered” (February 9). Writing on a day when the S&P was down 10.5% year-to-date, Bespoke analyzed the 10 market deciles (from the top 10% to bottom 10%) in various criteria in the first 40 days of 2016. Here is a summary of their findings:

“All of a sudden in recent weeks, investors have become laser focused on valuations, and if you have an above-market valuation, you’re getting sold.  Stocks with the highest dividend yields are down but not down nearly as much as stocks with very low or no dividend yields. Notably, the decline of stocks most loved by analysts at the start of the year are down the most of any decline in the entire matrix at -16.5%. Stocks hated by analysts are doing much better.  Stocks with little institutional ownership are outperforming as well, while the same is true for stocks with relatively low international revenue exposure…. Stocks with the highest P/E ratios have gotten absolutely crushed this year, with the highest P/E decile down 15.6% YTD.”

Looking forward, I am watching high-dividend, low price-to-earnings stocks to see if bargain hunters want to acquire a monopolistic company at only seven times trailing earnings with over a 2% dividend yield. These types of stocks exhibited relative strength last week, so that is a good sign that they could lead a stock market rebound. I also noticed a lot of bargain hunting in small-cap stocks and international ADRs, so it seems like quality stocks may lead the next market rally.

In the meantime, stocks with high price-to-earnings ratios remained under relentless selling pressure. I remain worried about high-dividend stocks over the longer term due to the fact that 2016 is shaping up to be a record year for dividend cuts, but near-term many dividend stocks are exhibiting relative strength.


It should not be assumed that recommendations made in the future will be profitable or will equal the performance of the securities in this list. Click here to see the preceding 12 month trade report.

Although information in these reports has been obtained from and is based upon sources that Navellier believes to be reliable, Navellier does not guarantee its accuracy and it may be incomplete or condensed. All opinions and estimates constitute Navellier's judgment as of the date the report was created and are subject to change without notice. These reports are for informational purposes only and are not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities mentioned in these reports must take into account existing public information on such securities or any registered prospectus.

Past performance is no indication of future results. Investment in securities involves significant risk and has the potential for partial or complete loss of funds invested. It should not be assumed that any securities recommendations made by Navellier. in the future will be profitable or equal the performance of securities made in this report.

Dividend payments are not guaranteed. The amount of a dividend payment, if any, can vary over time and issuers may reduce dividends paid on securities in the event of a recession or adverse event affecting a specific industry or issuer.

None of the stock information, data, and company information presented herein constitutes a recommendation by Navellier or a solicitation of any offer to buy or sell any securities. Any specific securities identified and described do not represent all of the securities purchased, sold, or recommended for advisory clients. The reader should not assume that investments in the securities identified and discussed were or will be profitable.

Information presented is general information that does not take into account your individual circumstances, financial situation, or needs, nor does it present a personalized recommendation to you. Individual stocks presented may not be suitable for you. Investment in securities involves significant risk and has the potential for partial or complete loss of funds invested. Investment in fixed income securities has the potential for the investment return and principal value of an investment to fluctuate so that an investor's holdings, when redeemed, may be worth less than their original cost.

One cannot invest directly in an index. Results presented include the reinvestment of all dividends and other earnings.

Past performance is no indication of future results.

FEDERAL TAX ADVICE DISCLAIMER: As required by U.S. Treasury Regulations, you are informed that, to the extent this presentation includes any federal tax advice, the presentation is not intended or written by Navellier to be used, and cannot be used, for the purpose of avoiding federal tax penalties. Navellier does not advise on any income tax requirements or issues. Use of any information presented by Navellier is for general information only and does not represent tax advice either express or implied. You are encouraged to seek professional tax advice for income tax questions and assistance.

IMPORTANT NEWSLETTER DISCLOSURE: The performance results for investment newsletters that are authored or edited by Louis Navellier, including Louis Navellier's Growth Investor, Louis Navellier's Breakthrough Stocks, Louis Navellier's Accelerated Profits, and Louis Navellier's Platinum Club, are not based on any actual securities trading, portfolio, or accounts, and the newsletters' reported performances should be considered mere "paper" or proforma performance results. Navellier & Associates, Inc. does not have any relation to or affiliation with the owner of these newsletters. There are material differences between Navellier & Associates' Investment Products and the InvestorPlace Media, LLC newsletter portfolios authored by Louis Navellier. The InvestorPlace Media, LLC newsletters and advertising materials authored by Louis Navellier typically contain performance claims that do not include transaction costs, advisory fees, or other fees a client may incur. As a result, newsletter performance should not be used to evaluate Navellier Investment Products. The owner of the newsletters is InvestorPlace Media, LLC and any questions concerning the newsletters, including any newsletter advertising or performance claims, should be referred to InvestorPlace Media, LLC at (800) 718-8289.

Please note that Navellier & Associates and the Navellier Private Client Group are managed completely independent of the newsletters owned and published by InvestorPlace Media, LLC and written and edited by Louis Navellier, and investment performance of the newsletters should in no way be considered indicative of potential future investment performance for any Navellier & Associates separately managed account portfolio. Potential investors should consult with their financial advisor before investing in any Navellier Investment Product.

Navellier claims compliance with Global Investment Performance Standards (GIPS). To receive a complete list and descriptions of Navellier's composites and/or a presentation that adheres to the GIPS standards, please contact Navellier or click here. It should not be assumed that any securities recommendations made by Navellier & Associates, Inc. in the future will be profitable or equal the performance of securities made in this report. Request here a list of recommendations made by Navellier & Associates, Inc. for the preceding twelve months, please contact Tim Hope at (775) 785-9416.

Marketmail Archives Trade Summary

It should not be assumed that recommendations made in the future will be profitable or will equal the performance of the securities in this list. Click here to see the preceding 12 month trade report.

Although information in these reports has been obtained from and is based upon sources that Navellier believes to be reliable, Navellier does not guarantee its accuracy and it may be incomplete or condensed. All opinions and estimates constitute Navellier's judgment as of the date the report was created and are subject to change without notice. These reports are for informational purposes only and are not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities mentioned in these reports must take into account existing public information on such securities or any registered prospectus.

Past performance is no indication of future results. Investment in securities involves significant risk and has the potential for partial or complete loss of funds invested. It should not be assumed that any securities recommendations made by Navellier. in the future will be profitable or equal the performance of securities made in this report.

Dividend payments are not guaranteed. The amount of a dividend payment, if any, can vary over time and issuers may reduce dividends paid on securities in the event of a recession or adverse event affecting a specific industry or issuer.

None of the stock information, data, and company information presented herein constitutes a recommendation by Navellier or a solicitation of any offer to buy or sell any securities. Any specific securities identified and described do not represent all of the securities purchased, sold, or recommended for advisory clients. The reader should not assume that investments in the securities identified and discussed were or will be profitable.

Information presented is general information that does not take into account your individual circumstances, financial situation, or needs, nor does it present a personalized recommendation to you. Individual stocks presented may not be suitable for you. Investment in securities involves significant risk and has the potential for partial or complete loss of funds invested. Investment in fixed income securities has the potential for the investment return and principal value of an investment to fluctuate so that an investor's holdings, when redeemed, may be worth less than their original cost.

One cannot invest directly in an index. Results presented include the reinvestment of all dividends and other earnings.

Past performance is no indication of future results.

FEDERAL TAX ADVICE DISCLAIMER: As required by U.S. Treasury Regulations, you are informed that, to the extent this presentation includes any federal tax advice, the presentation is not intended or written by Navellier to be used, and cannot be used, for the purpose of avoiding federal tax penalties. Navellier does not advise on any income tax requirements or issues. Use of any information presented by Navellier is for general information only and does not represent tax advice either express or implied. You are encouraged to seek professional tax advice for income tax questions and assistance.

IMPORTANT NEWSLETTER DISCLOSURE: The performance results for investment newsletters that are authored or edited by Louis Navellier, including Louis Navellier's Growth Investor, Louis Navellier's Breakthrough Stocks, Louis Navellier's Accelerated Profits, and Louis Navellier's Platinum Club, are not based on any actual securities trading, portfolio, or accounts, and the newsletters' reported performances should be considered mere "paper" or proforma performance results. Navellier & Associates, Inc. does not have any relation to or affiliation with the owner of these newsletters. There are material differences between Navellier & Associates' Investment Products and the InvestorPlace Media, LLC newsletter portfolios authored by Louis Navellier. The InvestorPlace Media, LLC newsletters and advertising materials authored by Louis Navellier typically contain performance claims that do not include transaction costs, advisory fees, or other fees a client may incur. As a result, newsletter performance should not be used to evaluate Navellier Investment Products. The owner of the newsletters is InvestorPlace Media, LLC and any questions concerning the newsletters, including any newsletter advertising or performance claims, should be referred to InvestorPlace Media, LLC at (800) 718-8289.

Please note that Navellier & Associates and the Navellier Private Client Group are managed completely independent of the newsletters owned and published by InvestorPlace Media, LLC and written and edited by Louis Navellier, and investment performance of the newsletters should in no way be considered indicative of potential future investment performance for any Navellier & Associates separately managed account portfolio. Potential investors should consult with their financial advisor before investing in any Navellier Investment Product.

Navellier claims compliance with Global Investment Performance Standards (GIPS). To receive a complete list and descriptions of Navellier's composites and/or a presentation that adheres to the GIPS standards, please contact Navellier or click here. It should not be assumed that any securities recommendations made by Navellier & Associates, Inc. in the future will be profitable or equal the performance of securities made in this report. Request here a list of recommendations made by Navellier & Associates, Inc. for the preceding twelve months, please contact Tim Hope at (775) 785-9416.

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