The market finally retreated. Although it was slight. The overall US market as measured by the VTI dropped 1.21%, the SP500 as measured by the SPY was down 1.26% and international x-us was down 1.27%. Bonds advanced 0.33% and the US dollar fell 2.04%.

For the month, the US market was up 0.66%, the SPY was up 0.39% and international x-US was up 2.16%. Some of the tech stocks really got hurt in April, AAPL -14.0%, GOOGL -7.2% and MSFT -9.7%. AAPL now sells at less than 12x 2016 earnings, yields 2.43% and has a free cash flow yield of about 10%. Compare that to a 20-year treasury which yields 2.26%! But nobody wants AAPL right now and the stock has fallen hard.

Value, small caps and resource stocks outperformed in April. Treasuries were mostly down but the corporate investment grade and high yield markets had nice rallies. The aggregate bond index was up 0.25%. Treasury rates were up about 5 basis points across the curve. The dollar was down and oil had a major rally, up 19.77%.

The correlation between oil and stocks did not hold this week. While stocks fell oil moved ahead by 5.15%. As we move away from $40 per barrel oil and get closer to $50 that correlation will likely begin to decline.
Year to date the US markets are up 1.64%. Bonds have been the bigger winner, up 3.30%.

EARNINGS

While earnings overall are down year over year, the reported numbers versus expectations have been better than expected. 62% of SP500 companies have reported earnings per FactSet. 74% have beaten their mean earnings estimate and 55% have beaten their sales estimate. So far, earnings are down 7.6%. The estimated earnings decline was about 9% when Q1 ended.

Normally, earnings estimates for a quarter decline during the first few weeks as analysts are often a little too optimistic going in, and need to readjust as the quarter begins. For this quarter (Q2), analysts have lowered earnings estimates for the SP500 companies by 1.8%. Over the last year, earnings estimates were dropped by an average of 2.8% during the first month of the quarter. Looking back over the last five years, analysts have dropped earnings estimates by 2.2% during the first month and over the last 10 years the average was a 2.3% drop. So the current estimated decline of 1.8% for Q2 is better than the recent averages.

Likewise, the spread between companies raising guidance versus lowering guidance has been almost flat.  So while we would not say that earnings are going to be really good going forward, they may be better than what analysts estimate.

ECONOMY

The Bureau of Economic Analysis released their advance estimate of Q1 GDP showing slow growth of 0.50%. It was the lowest number since Q1 of 2014, when the number was negative. In past years, Q1 has been the slowest quarter of the year, if the pattern holds, growth will accelerate from here.
Private nonresidential fixed investment, or capex, fell at a 5.9% annual rate. As would be expected, investment in energy exploration was the main culprit, plunging by 86%. With oil prices on the rebound, investment in the energy sector should begin to stabilize.

Inventory to sales continues to rise. That would be a negative sign for the economy. At some point inventory levels will revert to the mean and to do so, there would likely be a drop in purchasing for a while, slowing the economy.

Autos and housing are not contributing to the economy at their historical levels. The strong job market has helped employees. Their compensation as a percentage of nominal GDP has been rising.

Transfer payments from the government to households continues to rise. Healthcare costs (Medicare and Medicaid, marked in light and dark blue below) are driving most of the increase. Transfer payments are now around 15% of GDP compared to about 4% in 1947.

All of this adds up to not much, in terms of growth, which is why GDP is estimated to have grown at only 0.5%.

For Q2, current estimates show a small improvement over Q1. The Atlanta Fed’s GDPNow currently shows growth of 1.80% and the NY Fed Nowcast currently forecasts growth 0.80% for the second quarter.

JOBS

The initial jobless claims number came in a 257k. Up by 9k from last week but still very low. The job market has been the one very big bright spot in the economy. The four-week moving average is at its lowest level since 1973.

HOME SALES

Pending home sales were up by 1.4% in March, higher than the consensus estimate of 0.5%. It would be a big positive if housing can begin approaching historical norms.

FED

The Fed released a statement on Wednesday. They gave no indication of when they will raise rates again and the statement was noticeable in that it did not emphasize international risks as much as previous statements. The Fed is probably looking at 1 to 2 hikes this year, with a slight chance for a June increase, although we would need some firming economic numbers and stable financial markets. The Brexit vote is just after the June Fed meeting so the Fed would also have to be confident that the “no exit” choice would win to raise rates in June.

One reason why growth might be slowing is that the Fed’s balance sheet, as a percent of GDP has been declining since the end of 2014. The Fed has maintained its assets at about $4.5 trillion during that time, but as GDP has grown, the percentage to GDP has declined. The net effect is the Fed’s balance sheet has less of a stimulating effect on the economy than a couple of years back.

EUROZONE

While the US is dragging along almost at stall speed, growth in Europe is beginning to accelerate. GDP in the Eurozone grew at an annualized pace of 2.2% in the first quarter, increasing at a rate of 2x the previous quarter. Inflation adjusted GDP has finally surpassed the 2008 level. However, economists are only expecting growth of 1.6% for the entire year.

SUMMARY

We did get a small pullback in the market last week. After the big run up we had expected such and there might more on the way. The market needs to put in a higher low and then resume its run and set new highs to turn the weekly trend positive. Earnings are bad but not as bad as analysts thought they would be. Estimates for Q2 are not falling as much as they normally do at this time of year, hopefully a positive sign. The economy really dragged in the first quarter but has avoided recession and economic growth around the world is slowly improving.
Watch our Market Outlook: https://www.youtube.com/watch?v=ORQGdDtTpTQ

The market was up again as all of the equity indexes moved higher. The US total market ETF (VTI) advanced 0.70%, the SP500 ETF (SPY) was up 0.57% and international x-US ETF (VXUS) was up 1.66%. The bonds (AGG) were down 0.39%, the US dollar (BUXX) increased by 0.58%.

At some point there will have to be some kind of pullback in the market. As we have written about for weeks now, the market has not taken the opportunity to head lower on the many instances it had the chance. Thursday looked like one of those days. The market dropped by about 1/2% and closed near its low. On Friday, the market headed lower out of the gate but managed to rally to close at about break even. There was no follow through and that has been the case since February 11.

The volatility index (VIX) is down to levels we haven’t seen since August of 2015. The VIX will usually move opposite the direction of equity markets. So if the stock market is going down, the VIX will be going up. We wrote a few weeks ago that with so many traders betting on spike in volatility, they might end up on the wrong side of the trade, and that is what happened. But as the VIX pushes lower and lower it is indicating that the traders are just too comfortable and they are ignoring short term risk. The equity market will respond and go lower and the VIX will go higher. It does not have to be a dramatic move lower, but some kind of market pullback would make sense. On the other hand, you can make the argument that I am not the only person thinking that so maybe the market will continue to move higher uninterrupted.

Earnings were disappointing for the big tech companies. Weaker than expected earnings from GOOG, MSFT, AAPL, NFLX and INTC pushed those companies lower. Also, high quality, low volatility type companies (like KO, VZ and utilities) under performed.

On the plus side, market breadth, which is a measure of advancing and declining stocks, has been moving higher. Often a divergence between market prices and market breadth will foretell a change in market direction, but the fact that they are both moving up together is a positive sign.

(bespokeinvest.com)

Long dated bonds in the US fell and that led to losses for the aggregate bond index. As interest rates go up, bond prices go down. The move higher in rates might be a result of investors anticipating higher growth and/or inflation.

MARKET REVIEW/OUTLOOK

We did our quarterly Market Review/Outlook for BlueKey last week. It is about a 30-minute presentation. Please check it out and contact us with any questions.

ECONOMY

Housing reports were weak. Housing starts declined by 8.8% and building permits were down 7.7% compared to the previous month. The building permit number is now less than the previous low set in September. Part of the problem is that builders are focused only on high end homes whereas the demand appears to be at the lower price points.

The Conference Board’s Leading Economic Index increased by 0.2%. This was the first increase in four months. Year over year it was up 2.2%, suggesting slow but steady growth.

The Philly Fed General Business Activity Index fell 14 points to -1.6. This reversed the gain from last month and put the index back in contraction territory.

It was another banner week for initial jobless claims. The number fell to 247k. This is the lowest level since November of 1973.  The job market continues to be strong and is near full employment levels.

OIL

When the price of oil has been less than $50 per barrel, there has been a high correlation between its price and the stock market. This becomes even stronger between $25 and $40. When oil started to fall south of $50 it really began to threaten debt markets, led to big pullbacks in capital spending and job cuts, which led to the equity markets falling with the price of oil. The markets worried about spillover effects. As the price approaches $50 the correlation should begin to go back to normal.

EARNINGS

Earnings have not been that bad. To date, 26% of SP500 companies have reported. 76% have beaten earnings estimates and 55% have beaten sales estimates.

SUMMARY

Short-term momentum continues to be a powerful force moving the market higher. Interest rates turned higher and that will have to be watched. Economic statistics continue to be mixed, but that has been the case for a long time now, we are in a flat to very slow growth economy, but the job market is strong.

The market bounced off its lows from last week and the overall US market (VTI) moved ahead by 1.79%, the SP500 (SPY) +1.60% and overseas x-US (VXUS) +3.00%. The bond index and was roughly flat at +0.06%.

The equity markets continue showing strong resilience. The market has closed at or near the low at least 8 times since February 11th but there has not been any follow through. The SPY is now close to testing and possibly breaking through the downtrend line set from the highs last May.

A good internal signal is that the cumulative advance/decline line is showing even more strength than the market.

OIL

The market might be tested on Monday. Over the weekend OPEC held a meeting to decide on a production freeze but they could not reach an agreement. Remember on February 11 it was talk of a possible production freeze that set the low for oil which helped sparked the market rally.

CHINA

The market was helped by news from China. Q1 GDP came in at +6.7%. Recent PMI numbers have also shown a positive pattern. The general feeling is that the economic storm in China has settled down at least for now.

US ECONOMY

It was a mixed week for US economic data. Retail sales fell 0.3%, industrial production fell 0.6% and the NFIP small business optimism report declined. Most of the retail sales weakness was due to autos. X-autos retail sales were up 0.2%. On the plus side, we got another very strong initial unemployment claims report, new claims totaled 253,000. This is the lowest level since 1973. Another positive was the Philly Fed report which increased for the third straight month. This has been the largest three month increase since October of 2009.

SUMMARY

The market continues to show strength, but has risen almost 14% since February 11, it is overdue for a pullback. Economic reports continue mixed, growth remains slow to flat.

The market showed some possible signs of cracking this week. The US averages were down a little more than 1%, international markets were down only 0.18% and the bond index managed a 0.33% gain. What was most disconcerting was the performance on Friday, the market was up almost 1% but gave most of it back and ended up only 0.27%. That came after a brutal Thursday when the market fell 1.2%. Nevertheless, the market still has held support at $203.90 on the SPY.

While the market is up on a daily basis, the trend is still down on a weekly and monthly basis. Oil rose 8% to $39.72 per barrel. Analysts are starting to suggest that we have seen the low in oil.

FED

The Fed released the minutes from their meeting on March 16th. The minutes highlighted weakness in the global economy. The Fed will be taking a more passive approach towards raising interest rates. We are probably looking at one, maybe two increases for the year. It is possible that we don’t even see a single increase if the global economy remains shaky and overseas rates hover around the zero area.

EARNINGS

Earnings season starts Monday. Earnings are expected to decline for the fourth straight quarter. Energy earnings are expected to be negative. However, the earnings problem is bigger than just energy, take energy out and analysts still expect a drop of 4.2%. AAPL earnings should be down 19% year over year. 94 SP500 have issued negative guidance. For all of 2016, analysts are looking for an increase of 2.1% as the negative impact of falling oil prices and the rising US dollar begin to fade away. While analysts have been clearly negative on this past quarter, over the last four weeks they have actually raised earnings estimates for 443 companies in the SP1500 and lowered the forecast for 495.  That is a much more balanced tradeoff between plus and minus revisions than we saw earlier in the year.

ECONOMIC REPORTS

Initial claims for unemployment insurance fell to 267,000 last week, down 9,000. The new global PMI reports came out and the number increased to 50.5 in March. The previous report in February was more negative and suggested a higher probability of a global (not US) recession. This report shows that the new orders component of the report rose to 51.2, a positive number that might indicate the global economy is on a slow mend. On the negative side, employment and exports were down. 70% of the countries reporting are in expansion territory, the highest number so far this year. There will need to be more follow through in future months to see if the recovery can sustain itself.

VENEZUELA / ARGENTINA

Problems continue in Venezuela. Fridays are now a holiday in Venezuela through May in an effort to cut energy production. Credit default swaps indicate a 72% chance of default in the next year and almost 100% over the next five years. On the other hand, Argentina which has started to implement a more free market economy is going to the market with $12b in sovereign debt in the near term.

SUMMARY

The market has been overdue for a pullback. It looks like we are getting close. If the SPY cannot hold support at $203.90 we will probably get the pullback. A small pullback at this time would be natural and would set the stage for the next leg up. A bigger pullback combined with weakening economic data could reignite recession fears.

Weekly/Monthly/Quarterly Recap

The week ended on a high note as the market continued to resist the chance to turn negative. The SP500 (SPY) opened down on Friday 0.57% but then went straight up for the rest of the day closing up 0.69% on the day and at the high for the year at 206.92. For the week, all the broad ETFs were up, the overall US market (VTI), +2.09%, the SP500 (SPY), +1.87%, international x-US (VXUS), +0.91% and the aggregate bond index (AGG), +0.57% (all of our calculations include dividends).

March ended on Thursday and what a month it was. The market put the finishing touches on a monumental comeback as the US market climbed 7.11%, the SP500 was up 6.72%, international x-US +8.32% and the bonds were up 0.88%.

If you were an investor that only looked at your quarterly statement, you would find that the US markets had a moderate increase as the overall US market was up 0.97% and the SP500 was up 1.33% for the three-month period. International markets (x-US) dropped 0.42%. You probably would assume it was a calm, steady, increase. You would be wrong! The market took investors on a wild ride but ended up in about the same place as where it started. It was almost straight down and then straight up. The market got off to its worst start ever for the first two weeks of the year. From December 31 through the closing low on February 11, the SPY was down 10.31% and had hit a 22-month low. From that point it rallied 12.97% through the quarter ending close on Thursday, overall up 1.33% for the quarter.

The quick summary for the quarter was that the market fell on fears of a possible US recession but then as economic reports began to make clear that the threat of a near-term recession was minimal the stage was set for the recovery rally.

Fixed income outpaced equities. The AGG advanced each month and combined for a 3.03% gain for the quarter. Treasury bonds were up 8.15%. US fixed income is being helped by more quantitative easing in Europe and by negative interest rates in Japan which have pushed overseas rates lower increasing demand for US treasuries.

Gold was the top performing asset class, up 16.5% for the quarter. Commodities turned positive this quarter, up 3.78%. Emerging markets were up 2.73%. The dollar was down by 4.15%.

MANUFACTURING

The Institute of Supply Management (ISM) showed an increase in manufacturing activity for March. This was the first increase in six months. The index came in a 51.8, up from 49.5 in February. A number above 50 indicates growth. Since declining to slow manufacturing activity earlier in the year led to the fears of a recession, a higher number is a big positive.

PAYROLL

Nonfarm payroll in March increased by 215,000 jobs. For the quarter, the average gain was 209,000. That was up by 19,000 jobs compared to the average during the first three months of 2015. Year over year average hourly earnings were up 2.3%. The unemployment rate ticked up to 5.0% from 4.9%, as more people entered the labor force. Initial claims for unemployment rose to 276,000, the highest number in eight weeks but still a relatively low number.

VOLATILITY

As a follow up to our note last week on the volatility ETFs, we wrote that the huge increase in bets on funds like UVXY and TVIX might signal that the market might not act in a way these traders want. That turned out to be correct as the UVXY fell 22% and TVIX fell 19.6% on the week.

The equity market’s winning streak ended this week as the major indexes fell slightly. The overall US market (VTI) dropped 0.78%, the SP500 as measured by the SPY was down 0.62% and international markets (x-USA) were down 1.91%. The aggregate bond index was about even, falling 0.05%.

BETTING ON VOLATILITY

As the market has moved higher traders have been increasing their bets on volatility ETFs like TVIX or UVXY. These ETFs move counter to the market. So if the market is going down, these ETFs usually go up. With volatility priced low, and with the recent rally in the markets, traders have been anticipating a pullback, hence, the increased demand for these ETFs. TVIX brought in $160m on Monday and UVIX has added $723m over the last several weeks. But the market has a funny way of doing what everyone doesn’t expect. The big run-up off the February lows has had these traders and investors, including ourselves, thinking some kind of pullback might be in order, but the market simply has refused to cooperate, at least so far. Despite multiple chances to decline, including on Thursday when the Dow was down over 100 points in the morning, the market has not followed through on the downside. The market closed at its high on Thursday and pretty much at break even for the day. Similar to past rallies over the last few years, the market might be setting itself to do the unexpected and continue even higher with little pause.

But traders/investors looking for a hedge by going long the volatility ETFs need to be aware of their idiosyncrasies. These ETFs are betting on the VIX index. The VIX is not a stock or a fund or anything like that, the VIX is a complex mathematical formula to calculate the expected volatility of the SP500 based on the weighted average of out of the money puts and calls due to expire in about 30-days. Since the VIX is not anything tangible, no one can actually purchase the VIX. But there are future contracts available on the VIX and that is how these funds get exposure to the mathematical VIX calculation. These futures contracts are settled in cash at expiration. The volatility ETFs are based on buying and selling these futures contracts. The futures contracts do not track the actual VIX dollar for dollar. They go up and down based on many factors including the time left until the contract expires.

And that is why going long a volatility ETF is such a dangerous game. While a trader could hit a big payday if the market falls, especially if it happens quickly and unexpectedly, there is usually a huge wind pushing against the long trader every single day. This is called the “roll yield.”

Normally the near-term futures contract is priced lower than a longer dated contract with an expiration date further out. The futures market is said to be in “contango” when it is in this state. The ETFs will own the near-term (and cheaper) contract, but have to “roll” into the longer-dated (and more expensive) contract over time. So the funds are essentially selling low and then buying high, this eats away at the value of the future contract with each transaction. This differential is the “roll yield” and that is why buying a volatility ETF is a loser’s game over time. The trader is betting that he can overcome the roll yield by a sharp decline in the market and that he can get in and out of the fund before the roll yield eats away at this return.

The VXX is a volatility ETF started in 2009, it is down 99% since its founding. But the fund rallied 42% from December 31, 2015 to the market low on February 12. That is the appeal of these funds. The timing has to be just right for the big payoff.

There are rare times when the volatility markets are not in “contango” but in a state called “backwardation.” This is the opposite of contango. When a market is in backwardation, the near-term contract will be more expensive than the longer dated contract. When this happens, and it is rare, the volatility fund will have a tail wind at its back. The fund would then be selling high and buying low.

Needless to say, volatility ETFs are a high stakes game and not for the faint of heart.

HERE COMES THE WAVE

We have been waiting and it is starting to arrive. The percent of energy loans classified as in danger of default will be greater than 50% at some point this year at several of the major US banks. Banks are trying to limit their exposure be selling off the loans at a discount, not renewing the loans and cutting back on credit lines. According to the law firm of Haynes and Boone, LLP, 51 producers with $17.4b in debt have already filed for bankruptcy. The most exposure might be to the regional banks like Comerica and BOK Financial, not the majors, as the majors have already begun the process of writing off the loans and have smaller overall exposure.

ECONOMIC NEWS

Over the last couple of months, we saw some signs that the manufacturing sector, while still not in growth mode, was at least beginning to stabilize. That thesis took a hit backwards when the new durable goods report came out. New orders for products designed to last three years or more fell by a seasonally adjusted 2.8% in February. That report moved the Atlanta Fed’s GDPNow forecast of 1st quarter growth down to 1.4% from 1.9% the previous week. The GDPNow number was north of 2% a few weeks back, but has fallen over the last few weeks, but it is still positive indicating slow growth.

The Chicago Fed National Activity Index (CFNAI) report for February was mainly negative after a strong January report. All of the major categories were lower. The Employment contribution fell to its lowest reading since September. On a positive note, January was revised higher. The three month moving average is showing growth of about 2.6%.

Existing home sales came in at a seasonally adjusted rate of 5.08m versus 5.47m in January. But new home sales increased by 2% in February to 512k annual rate. There appears to be a big mismatch between where the demand is and what the supply is. In other words, there is demand for lower priced starter homes but there is not supply in that price category. According to Trulia, there were only 238k starter homes on the market versus 423,000 in 2012.

The Richmond Fed Manufacturing Index came in very strong, up 26 points to +22, that is the highest level since April 2010. The Composite and Shipments month over month jump was the largest ever, and the New Orders increase was the second highest ever. These increases, together with the increases last week in the Empire Manufacturing report and the Philly Fed report show some strong regional strength around the country.

However, that strength did not carry over to the Kansas City region. The Kansas City Fed Composite Index moved in the right direction, rising six points, but was negative overall, scoring a -6 for March. This was the 13th straight month of a contracting manufacturing activity in that region.

The ATA For-Hire Truck Tonnage Index was up 7.2% for February and was up 8.6% year over year, indicating faster economic growth in Q1.

UNEMPLOYMENT

Initial claims for unemployment remains low, coming in at 265,000 for the most recent reading. The four-week average is 259,750, which is close to the lowest level since 1973. The labor market remains tight.

SUMMARY

Overall, the economic reports had a negative tilt this week, however, we still do not see a recession in the near-term. The market declined just slightly. The market has shown a lot of resilience of late and that might be a “tell” for a stronger market down the line.

BACK IN THE BLACK

The market continued its remarkable comeback and put in gains for the 5th week in a row, and is now up for the year. The overall US stock market as measured by the VTI was up 1.38% (dividend adjusted), the SP500 as measured by the SPY was up 1.32% (dividend adjusted), international markets (x-US) as measured by the VXUS was up by 0.63% and the aggregate bond index as measured by the AGG was up by 0.69%.

The SPY is just under 2 standard deviations above its 50-day moving average, normally indicating an overbought condition. But this market has continued to rise over the last few weeks despite opportunities to turn south.

The market was helped by the Federal Reserve, which prior to Wednesday was still holding the line on four interest rate increases this year. But the Fed got in tune with the market projections, and said rates would rise at a more measured pace, probably two more times this year.

ECONOMIC REPORTS

Economic reports were for the most part positive this week. The New York Empire Manufacturing Report went into positive territory for the first time since July. The Philadelphia Fed Manufacturing Survey also showed positive numbers, the first time since August. Both imports and exports at the west coast ports of Los Angeles, Long Beach and Oakland showed increases. There was some negative data on a report measuring jobs openings. Numbers were revised down for December to 5,281,000 from 5,607,000. But the unemployment report continued to be low, coming in at 268,000 in initial claims. That is up slightly from last week but still a very good number. We have now been at less than 300k on the unemployment claims report for 54 weeks and that is the longest streak since 1973.

SUBPRIME AUTO LOANS

Problems are emerging with subprime auto loans. Delinquencies greater than 60-days on loans packaged into bonds over the last five years are now at the highest level in two decades, 5.16%. Moreover, the rate is of delinquency is higher on the new loans than the older loans, indicating that standards for loans have recently been made easier. Subprime auto loans have helped power the auto industry’s recent record sales, and any pullback in the availability of these loans would impact the auto manufacturers.

US DOLLAR

The Chinese currency, the yuan, had its biggest one-day advance against the dollar, rising 0.52%. Although analysts do not seem to believe the currency’s strength is a sustainable trend. As a side note, Trump and other candidates have been arguing that China is manipulating their currency lower, the exact opposite of what is really happening.

Other currencies have also been gaining against the dollar, the WSJ Dollar Index, which tracks the dollar against 16 currencies, hit its lowest level since June on Thursday (see the chart above). A lower or stable dollar should be a positive for earnings for the SP500, as it makes their products more competitive overseas. A rising dollar was one of the obstacles to rising earnings last year.

COMMODITIES

The 3.5 year decline in commodities might be coming to an end. The CRB Commodity Index is up 13% over the last 35 days. Commodities tend to run in trends that last a good length of time so if this is not a head fake we might be at the start of a bull run.

UNINTENDED CONSEQUENCES

Duke University’s Fuqua School of Business did a survey of CFOs to determine the impact of a rise in the minimum wage to $15. Such a dramatic rise would be negative on employment. 41% said they would lay off current workers and 66% said it would slow the pace of future hiring. 66% also said benefits would be cut and 49% said prices would have to be raised. The point is that such a huge increase over a short time period will impact the way business is done, probably speeding up the pace of automation and lowering employment.

THE RISE OF TRUMP

Speaking of unintended consequences, the rise of Trump and his style closely matches recent Latin American authoritarian figures like Hugo Chavez and Rafael Correa. In the leading Venezuelan daily, the “El Universal”, Roberto Giusti compared Chavez and Trump, “consummate showmen with a shrewd ability to manage emotions of a large audience and, using a mixture of half-truths, pin the blame for people’s ills on enemies, real or imagined.”

In Latin America, the populists blame big business and corrupt politicians for working with the United States. Trump has spun that strategy around and blames our problems on immigrants and the “very smart” Chinese and Mexicans that have outfoxed our “stupid” leaders. Bernie Sanders strategy is a softer version of Trump but puts the blame on big business and the rich. Neither candidate has realistic solutions.

Incredibly, in 1998, Chavez actually got the majority of the middle class vote. Look at Venezuela now. There barely is a middle class left and the country’s economic system has been destroyed.

SUMMARY

The market has come a long way in a short time. Economic news in the US continues to be on the favorable side, and the fear of a recession which really hammered the market earlier in the year has somewhat faded. The rising price of oil as helped that. At this point, the market is probably somewhat overbought. So some kind of pullback would not be unexpected.

Former Dallas Fed President on free trade.

The market continued its move higher as the overall stock market (VTI) advanced by 0.89%, the SP500 (SPY) was up 1.16% and the international markets x-USA (VXUS) had a 1.54% gain. For the year, the SPY is now off only 0.54%. The aggregate bond index (AGG) was roughly flat for the week, +0.037%.

ECB

The European Central Bank (ECB) announced it would lower the rate it charges banks by 10 basis points and would provide banks with long term cash. The cash would be free of charge but if it was loaned out there would be a 40 basis point cost. Monthly bond purchases would increase to $89b and would include buying non-financial European corporations with investment grade ratings. The market’s initial reaction was negative but then turned positive on that announcement.

ENERGY

The International Energy Association said it saw signs of a price bottom helping increase the price of crude oil to $38.50. Four weeks in a row of stable to higher oil prices have coincided with a four week stock market win streak.

MARKET TREND

The market has put in a strong performance over the last four weeks, but from a technical perspective, while the daily trend is up, the weekly trend is still down. The market needs to put in a higher low on the next downturn for that trend to flip. Nevertheless, this market has had ample opportunities to turn down in the last couple of weeks and has managed to push higher each time.

US ECONOMY

It was a light week for economic news, but we received another positive jobs report. Initial claims for unemployment dropped to 259k, marking the lowest reading of the year and the third lowest reading of this entire economic cycle.

With the generally good recent economic news including the strong employment reports as well as the recover of the equity markets, the chance for a couple of Fed interest rate increases is back on the table. The Fed meets this week. And while we don’t expect an increase this week, the probability for a move in the next few months is markedly higher now.

The latest GDPNow forecast from the Atlanta Fed came in at 2.2% on March 9th. Same level as the week before. So US estimated GDP growth for Q1 continues to appear to be positive.

EARNINGS

Companies are in an earnings recession. According to Factset, 99% of companies have now reported earnings. 69% beat their earnings estimate and 47% beat their sales estimate. The market sells at a forward p/e of 16.1, which is above the 5-year average of 14.4 and the 10 year average of 14.2. Looking forward to Q1, analysts have now cut estimated earnings by 8.8%. The 5-year average for the entire quarter is -4%. The estimated year over year earnings decline for Q1 is now -8.3%. At the start of the quarter, the estimated growth was +0.3%. Energy, materials and industrials are leading the decline. The estimated sales decline is -0.8%. Analysts are looking for positive earnings and revenue growth beginning in Q3. On an annualized basis, analysts are looking for earnings to increase 2.7% and revenues to increase 1.6% for 2016.

INCREASED CHANCE OF GLOBAL RECESSION

While economic news in the US has been improving, there has been a decline overseas. The odds of a global recession are now slightly higher than a few weeks ago. The OECD Composite Leading Indicator for OECD countries plus six key nonmember economies fell by 0.1 point in January to 99.1, the lowest level since September of 2009.  When broken down by individual countries, only 47% of the composite leading indicators are now above their long term averages. According to Ned Davis Research, when less than one-half of the countries are above their long term averages the global economy has usually been in recession. However, a global recession does not necessarily mean a US recession and for now, the US appears to be continuing in slow growth mode. As we wrote on 2/12/16, when the global economy is in recession but the US isn’t, the loss in international equity indexes has been about 17%, compared to 45% when the US and the global economy is in recession.

SUMMARY

Overall, the equity markets have been strong over the last month. The US economy shows continued slow growth and led by strong employment reports, does not appear to be headed for an imminent recession in the next several months. Overseas, the global economy is slowing and the recession threat is now higher.

MARKET

It was a very strong week in the equity markets as the overall US stock market (VTI) increased 2.99%, the SP500 (SPY) was up 2.74%, international markets (VXUS) flew higher by 6.03% and the aggregate bond index fell 0.33%.
On a daily basis, the trend is no longer down. The market has put in higher highs and higher lows. Bears still argue this is simply a bull run inside of bear market. They may be right, time will tell. It is not unusual for strong rallies inside of a bear market. But our belief is that for a bear market to take hold, the US economy would have to spin into recession. And the last few weeks, while mixed, the thrust of the economic data has been indicating that the US will avoid recession for now. This is confirmed by the latest GDPNow estimate of Q1 real GDP growth, which moved up to 2.2% from 1.9% last week.

EMPLOYMENT

Non-farm payroll had another strong report, rising 242,000 in February. The prior two months were revised higher by 30,000. The unemployment rate remained steady at 4.9%. The average work week fell by 0.2 hours and average hourly earnings dropped by 0.1%.

Initial claims for unemployment rose by 6,000 to 278,000. The four-week average dropped by 1,750 to 270,250.

Overall the employment reports are positive and show strength in the US economy.

PRODUCTIVITY

Productivity of nonfarm workers fell at a 2.2% seasonally adjusted rate in Q4 of 2015. It was the weakest report since Q4 of 2014. This was not a good number. Only four times since 1994 have there been weaker quarters. Lower productivity coupled with higher wages increases unit labor costs, and at some point, higher unit labor costs will encourage businesses to find ways to reduce those costs. In other words, cut employment or slow its growth.

MANUFACTURING

Factory orders were up 1.6% in January, a seven month high. The ISM Manufacturing report came in at 49.5. A reading of 50 is considered break-even, so 49.5 would indicate a small decline in activity, but that number is better than recent reports and was better than the consensus estimate of 48.5. It is the second straight month with a higher reading (month over month). Recent reports like this might be indicating that the manufacturing sector has stabilized.

NONMANUFACTURING

The ISM gauge of nonmanufacturing businesses fell to 53.4 in February from 53.5 in January. That is the lowest level in two years but still a healthy amount above the break-even level of 50. The reading indicates the US economy continues to expand.

CREDIT QUALITY

Moody’s Investor Service monthly tall of the least creditworthy companies (ie junk ratings with a negative outlook) rose to 274. The all-time high was 291 in April of 2009.