Holiday Shortened Week
“When black Friday comes, I’ll stand down by the door”. Although we won’t be catching anyone jumping from the floors above, I’m sure Steely Dan was not talking about the day when retailers “get into the black” for the year. The focus for the remainder of the year will likely be on the consumer. Wage growth, reported with the employment report the week following black Friday, may help determine whether Santa will be visiting Wall Street later in the month. Concerns about spending have cropped up around the world as China cut their interest rates and the European Central Bank will be doing their version of quantitative easing. The financial markets have loved the gusher of money and have pushed stocks to their highest levels all year. Even though the US Fed is backing away from monetary easing, it is hard to see how they will be able to raise rates if the rest of the globe continues to cut theirs. Bond market investors have figured this out and have kept rates at the lows for the year, not yet spooked by inflationary fears. The release of Fed minutes last week pointed to worries about “lack of inflation”. Let the sales and markdowns begin, for, “when black Friday comes, I’m going to stake my claim.” I will need the extra fortification of Thanksgiving dinner to survive the usual melee on Friday!
Stocks continue their march higher, spurred by central bank largess. From China cutting rates, in a surprising move, to Europe pushing for more easing, stocks investors are sensing the Fed here will need to leave rates alone. Bullishness also has returned, as many measures of sentiment are at levels last seen early in the year, before small cap stocks began diverging from the SP500. Valuations are once again a concern as well, with the market priced at 20 times the last 12 months of earnings. The last time that level was touched was in 2005. Interestingly, from ’05 to the market collapse three years later, earnings were growing at a faster rate than the climb in the SP500. But most striking is that stocks were essentially unchanged over the subsequent five year period from the time they hit the 20 multiple. It marks a rather high valuation on a historical basis as well. Except for the crazy valuations of 1999, the 20 times trailing earnings usually marked a multi-year peak in stock prices. Given the high valuations today, the short-term outlook is that the markets can go higher. However, in the long-term, stocks may rise and fall quite a bit over the next five years, but from point to point, be relatively unchanged.
As mentioned in the introduction, if global central banks are interested in keeping rates low or are currently cutting interest rates, it will be very hard for the Fed to raise rates. In a global economy, the US is not an island. As we have mentioned in the past, our rates continue to be well above those around the world and foreign investors are getting the benefit of a higher dollar. US investors are getting punished for that same higher dollar. Bond investors have little to fear in the way of significantly higher rates through the early part of next year, barring an unforeseen spike in prices. Commodity prices, even after a good week for oil, remain well below year ago levels and are not showing signs of picking up the pace. While interest rates are low, they can go lower still in the months ahead.
We highlighted energy last week and as if on cue, energy prices rose last week on the heels of the Baker Hughes/Halliburton merger announcement. It will take more than a week of better performance to get energy to move from dead last in our industry ranking toward at least the middle rungs. Technology and healthcare remain the top two sectors with utilities a surprising third. The more “inflationary” sensitive issues like basic materials and energy continue to be mired at the bottom. Without much pricing pressure and a declining global rate environment, it has been very hard for these two sectors to shine. That may be in the process of changing as some believe these groups are too cheap to pass up. We’ll wait for more evidence of a market shift in sentiment toward these two groups before committing investment dollars. One way to keep watch is at the pump. When prices begin to steadily rise, it may be time to invest.
The markets will be on holiday trading this week, with “full” participation on Monday and Tuesday, but everyone heading for the family table on Wednesday and half day on Friday. Momentum should keep stocks up for the week, but keep an eye on how the opening shopping week gets compared to years past. Bond investors can be comfortable in buying 7-10 year maturities as rates are likely to continue their slow trek downward well into the New Year.
The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable, but are opinions and do not constitute a guarantee of present or future financial market conditions.