Why the stock market rally may continue# Stock
u*e
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Why has the stock market rallied during the past five months? In hindsight,
it seems simple: As long as the Fed or any other central bank is printing
money, then stocks rally.
As I have been saying, four factors have been supporting risk assets since
November: the economy, the market's technical condition, sentiment, and
monetary policy. Until a few weeks ago, the first three factors had been
losing steam and were at risk of toppling the market—or so it seemed. But
they didn’t.
In terms of the economy, some of the high frequency economic indicators that
I follow have started to roll over, as they have around this time in each
of the past three years.
Technically, during the last few months, we’ve seen a loss of leadership,
from copper to the 10-year Treasury yield to the Shanghai Composite to
Eurozone banks. And the most unlikely sectors have led the market higher,
namely consumer staples, health care, and utilities.
But in recent weeks some of those indicators have started to improve.
Sentiment-wise, bullishness reigns supreme. Mutual fund flows have been
strong, sentiment surveys show a lot of complacency, and now we’re starting
to see magazine covers tout the return of the bull market. These are the
kinds of indications we sometimes —but certainly not always—see at market
tops.
So, why didn’t the combination of weakening economic momentum, eroding
technical leadership, and lofty sentiment levels produce the kind of
correction that we’ve experienced in the spring of 2010, 2011, and 2012?
Because the Fed and the Bank of Japan are printing money by the bucket load,
which they weren’t doing during the prior corrections.
That's the only logical conclusion for why stocks have held up so well,
while other indicators have corrected. But it doesn't stop here. According
to my colleague, Trevor Greetham, monetary policy could also explain why the
more defensive and higher-yielding sectors have led the stock market higher
. It could also explain the disconnect between the stock market
and industrial commodities, which have been weak. Why? Because investors,
who would normally be satisfied in safe Treasuries, are going into higher
yielding but riskier sectors of the bond market. And now that these higher-
yielding sectors are more fully valued, the reach for yield has gone even
further, stretching into the higher-yielding sectors in the stock market,
like consumer staples, health care, and utilities.
Is any part of the stock market still sensitive to the swings in the economy
? The answer seems to be commodities, which have been quite weak lately, and
it could explain why industrial metals have stopped correlating to stocks
in recent months. In addition, certain economically sensitive sectors such
as industrials and tech have been lagging, as have certain regions of the
global economy, especially China and the emerging markets.
What this tells me is that as long as the Fed and other central banks
continue to flood the system with liquidity, perhaps the only correction we
’ll see will be the kind that takes place behind the scenes and underneath
the surface of the major averages. In other words, in commodities and in
economically sensitive stock market regions and sectors, at least until the
QE music stops or the U.S. economy rolls over hard. But neither of these
scenarios appears to be imminent.
Thank you very much for your attention, and I’ll see you next month.
it seems simple: As long as the Fed or any other central bank is printing
money, then stocks rally.
As I have been saying, four factors have been supporting risk assets since
November: the economy, the market's technical condition, sentiment, and
monetary policy. Until a few weeks ago, the first three factors had been
losing steam and were at risk of toppling the market—or so it seemed. But
they didn’t.
In terms of the economy, some of the high frequency economic indicators that
I follow have started to roll over, as they have around this time in each
of the past three years.
Technically, during the last few months, we’ve seen a loss of leadership,
from copper to the 10-year Treasury yield to the Shanghai Composite to
Eurozone banks. And the most unlikely sectors have led the market higher,
namely consumer staples, health care, and utilities.
But in recent weeks some of those indicators have started to improve.
Sentiment-wise, bullishness reigns supreme. Mutual fund flows have been
strong, sentiment surveys show a lot of complacency, and now we’re starting
to see magazine covers tout the return of the bull market. These are the
kinds of indications we sometimes —but certainly not always—see at market
tops.
So, why didn’t the combination of weakening economic momentum, eroding
technical leadership, and lofty sentiment levels produce the kind of
correction that we’ve experienced in the spring of 2010, 2011, and 2012?
Because the Fed and the Bank of Japan are printing money by the bucket load,
which they weren’t doing during the prior corrections.
That's the only logical conclusion for why stocks have held up so well,
while other indicators have corrected. But it doesn't stop here. According
to my colleague, Trevor Greetham, monetary policy could also explain why the
more defensive and higher-yielding sectors have led the stock market higher
. It could also explain the disconnect between the stock market
and industrial commodities, which have been weak. Why? Because investors,
who would normally be satisfied in safe Treasuries, are going into higher
yielding but riskier sectors of the bond market. And now that these higher-
yielding sectors are more fully valued, the reach for yield has gone even
further, stretching into the higher-yielding sectors in the stock market,
like consumer staples, health care, and utilities.
Is any part of the stock market still sensitive to the swings in the economy
? The answer seems to be commodities, which have been quite weak lately, and
it could explain why industrial metals have stopped correlating to stocks
in recent months. In addition, certain economically sensitive sectors such
as industrials and tech have been lagging, as have certain regions of the
global economy, especially China and the emerging markets.
What this tells me is that as long as the Fed and other central banks
continue to flood the system with liquidity, perhaps the only correction we
’ll see will be the kind that takes place behind the scenes and underneath
the surface of the major averages. In other words, in commodities and in
economically sensitive stock market regions and sectors, at least until the
QE music stops or the U.S. economy rolls over hard. But neither of these
scenarios appears to be imminent.
Thank you very much for your attention, and I’ll see you next month.