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Stocks And The Fundamental Backdrop: The New Strategy Is "Hope"
Submitted by Pater Tenebrarum via Acting-Man blog,
When Will Bad News Cease to be Good News for Stocks?
It is quite amazing to watch this. Even as one economic datum after another indicates that a major slowdown is underway that could well turn into a recession (keep in mind that this is not a certainty – at similar junctures in recent years, aggregate economic data recovered just in the nick of time), the US stock market continues to take everything in stride.
The most recent example was the enormous “miss” of the payrolls report on Friday. The cash market was closed on Friday, but US stock futures still traded briefly after the release and declined sharply. Whatever concerns futures traders had were evidently forgotten by Monday. After all, weak jobs data mean more free money from the central bank for longer, as the much talked about rate hike will likely be put off further.
Image credit: Elnur Amikishiyev | Getty Images
It appears though that we didn’t really get the memo. According to press reports, the market’s sanguine reception of the payrolls data miss isn’t driven by expectations about central bank policy. Instead, the main driver is “hope”. Hope is generally not thought to be an investment strategy, but there it is. What is even more curious is what the hope is all about. A headline at Reuters reads: “Stock markets hope earnings offset weak economic data”. Say what?
“Market focus will shift from macro to micro next week, and investors betting on gains in stocks will hope coming earnings reports will be somewhat stronger than recent disappointing economic figures.
Earnings expectations have been falling sharply in the past weeks, with the most recent estimate showing a 2.8 percent decline in earnings growth, squeezed by dwindling expectations for the energy sector. The concern about economic growth will increase following Friday’s weaker-than-expected data on jobs growth. Energy companies’ earnings are now expected to fall nearly 64 percent year-on-year. Investors saw the sector drop 3.6 percent in the first quarter, bringing the nine-month decline to 22 percent.
Market bulls say softening economic data, including U.S. private sector jobs, factory activity and consumer spending, have weighed on stocks lately. While weak figures keep the Federal Reserve from raising rates – a positive for markets – the negative factors are a concern, said Daniel Morris, global investment strategist at TIAA-CREF in New York.
“We view this payroll number as more negative than positive for U.S. equities,” he said. The effect of the strong U.S. dollar on offshore operations and creeping inflation, in the form of higher labor costs, have also taken a toll, one that some strategists think is too pronounced. In Friday’s abbreviated trading session, equity futures fell about 1 percent.
“My guess is we’ve overdone it in terms of concern,” said Art Hogan, chief market strategist at Wunderlich Securities in New York. “We always price in the bad news first.”
He said that both energy companies pummeled by concern about the sharp drop in oil prices and multinationals suffering from the impact of a stronger dollar might actually be set for positive surprises. “In terms of knee-jerk reaction, surprises are going to come from where we slashed estimates the most.”
Despite the rising concern about the earnings season and the weaker data, stocks showed resilience to start the year. This past week the S&P 500 closed its ninth consecutive quarterly gain, even if it was a meager 0.4 percent rise.
“Estimates are down and the market has already absorbed that,” said Quincy Krosby, market strategist at Prudential Financial in Newark, New Jersey.
“All you need is some positive surprises for shorts to have to cover,” she said, speaking of investors who borrow a stock to sell it, betting on a price decline. “Positive guidance can change the tone of the market quite rapidly.”
Chip maker Micron set a negative early tone on Wednesday, forecasting lower revenue for the current quarter on waning customer demand.
More than 80 percent of the earnings pre-announcements this season were negative, according to Thomson Reuters data, setting the bar lower than is usually the case toward the start of earnings season.
In a typical quarter, about 63 percent of companies beat estimates and just above 20 percent miss. But the negativity has set the bar so low, it may have set the stage for a bounceback.
So the market has “priced in” all the recent negatives by brifly visiting levels some 2 or 3 percent or so below all its time highs. With that out of the way, we can focus on the fact that although earnings are likely to be atrocious, they will still “beat estimates”, as Wall Street analysts have wisely set the bar so low after a string of negative preannouncements that it should be a piece of cake for companies to step over it.
We always thought that there can be no such thing as a perpetuum mobile, but once again, we seem not to have gotten the memo. Hope is now not only a strategy in the most, respectively second-most overvalued market in history, it is a strategy that actually promises to work. Whether the market is deemed to be at the most, second or third-most overvalued level ever depends on which measures one looks at: based on the median stock P/E ratio and the price/sales ratio the market has never been more expensive. Based on the cap-weighted P/E, Tobin’s Q and CAPE, it is valued somewhere between the 1929, 2000 and 2007 peaks – a state also known as “cheap” nowadays.
According to the people interviewed by Reuters above, it is no longer possible for stocks to decline, since all news are good news and if any bad news that are actually held to be bad should surface, they can be successfully “priced in” by tiny temporary declines. For the time being, this is actually true. After all, it isn’t the news as such that are important for the market – what is important is how it reacts to them. However, we harbor some doubts as to the perpetuum mobile quality of this state of affairs. At some point, perceptions will change, and then we will likely see the exact opposite – i.e., all news will then be viewed as bad news.
A few large market participants are clearly getting worried about this possibility. Below is a chart of the so-called “CFSB Fear Barometer”. What this index shows is essentially the price difference between out of the money calls and puts on the S&P 500 Index that are expiring in three months. In short, it is a variation of the “Ansbacher Index” of yore. This price difference is shown by calculating what putting on a cost-free collar would entail: If one sells a 3 month 10% out-of-the money call on the S&P 500, how far out of the money would a 3 month put one can acquire with the proceeds have to be? Thus, if the Fear Barometer is at 20, it means that a 10% out-of-the-money call costs exactly the same as a 20% out-of-the-money put. In other words, a level of 20 would indicate that big investors are prepared to pay up for crash protection. Contrary to what one would normally expect, this is not a contrary indicator in this case, as there is very little retail participation in SPX options. Rather, it is a warning sign.
The CSFB fear barometer over the long term. The recent series of spikes far exceeds the ones seen prior to the 2008 crash. It is a bit odd that the thresholds are referred to as “excessive optimism and pessimism” on this chart. In reality, a high value in the index actually means that the pessimism of institutional investors is rising, or at least their fear of a major market decline is rising – click to enlarge.
What Might Upset the Apple Cart?
We can think of a number of things that could interrupt the party, at least for a while. One of those is the unresolved Greek dilemma. Generally, markets seem unconcerned about what happens with Greece and its debtberg, and the possibility that it might exit the euro. Maybe this is because market participants are convinced a last minute solution will be found, and that the extend and pretend scheme will continue as before. The odds for this have always appeared good, but a number of recent developments are beginning to cast doubt on this notion.
Assuming that Greece indeed defaults and exits the euro, will this necessarily be bad for risk assets? We actually don’t know, but we do believe that market participants would be surprised by such a development and haven’t given much thought to all the possible ramifications. Apart from the financial losses that would finally have to be recognized and written off by Greece’s lenders (which would noticeably increase the public debt of the remaining euro area members), there is also a geopolitical angle to this, on account of Greece’s geographical position and its closeness to Russia on spiritual grounds (in both countries the Orthodox Church is the predominant religion). Alexis Tsipras is actually traveling to Moscow, presumably to solicit president Putin’s help.
Recent developments include the IMF withdrawing its experts and negotiators from Athens, due to the fact that “there have been only four days of negotiations since the change of government in Athens” and that it appears that “no progress is foreseeable” at the moment. At the same time, it is still not certain if the Greek government will actually be able to pay the € 462 million it is supposed to pay to the IMF on April 9. Announcements to this affect keep changing. One announcement was that the payment would have to be delayed – which would be the first such default by a borrower in the IMF’s entire history – then some other government spokesman let it be known that the payment would actually take place as scheduled. No-one knows yet what will really happen. It seems however almost certain by now that Greece will be unable to make one or more of the subsequent payments scheduled between now and mid May:
Greek debt payment schedule until mid May: the first 462 m. are due to the IMF – click to enlarge.
Greece is a “gray swan” in a sense. It is a well-known problem, but at the same time it seems quite unlikely to us that a Greek default is actually “priced in”. The same is probably applicable to the recent string of weak US economic data; it seems to be widely assumed that this is only a transitory phase and that economic growth will soon resume. This is evidently the consensus, and as such it is vulnerable to disappointment. At the same time, the Fed still seems set on a rate hike course; it will be difficult for it to back-track in light of the need to preserve its vaunted “credibility”, especially if the stock market remains strong. A strong stock market after all is held to indicate that there is no problem. Unfortunately, the market is usually completely wrong at important junctures. Its often demonstrated failure to discount even blindingly obvious problems should certainly give one pause (we discussed this back in 2012 in “What Does the Stock market Really Know?”).
We would be quite surprised if upcoming corporate earnings fail to beat lowered expectations, but that will of course not change the fact that earnings growth is actually turning negative this quarter – for the first time since 2009. Similar to other less than encouraging developments, this isn’t going to matter until it does, but as noted above, once perceptions change, everything will all of a sudden Matter.
Below we show an update of the rather obscure, but in our opinion quite useful Rydex indicators. Rydex funds are only a very small slice of total market activity, but they still represent a microcosm of sentiment and positioning that is relevant as a stand-in for market-wide sentiment. Think of them as akin to a survey, in which a small number of respondents is usually sufficient to detect nation-wide trends in public opinion. Although the backdrop to the current bubble is different from that of the 1990s in terms of the wider public’s enthusiasm for the market (there are no signs yet that people are leaving their day jobs en masse to become day traders), these indicators show that among regular market participants, market sentiment and positioning has never been more lopsided than in recent months.
The reason to show an update is that a measure of uncertainty has recently crept in. The ratio of bull assets to bear assets has begun to fluctuate quite a bit, mainly due to continual and rapid buying and selling of bull and sector assets. Both bear assets and money market fund assets remain stuck near all time lows, so only very few can be accused of being cautious or – gasp! – even bearish. Of course this has been the case for quite some time and it has yet to affect the market negatively. However, from experience we know that the longer such extremes persist, the more harrowing and long-lasting the eventual denouement will be. Putting this into context with the fear barometer discussed above, we would expect that sometime this year, major market upheaval should begin. Unfortunately we cannot provide an exact date (for this we refer you to the mighty Zoltar).
Rydex money market fund assets, bear assets and the bull-bear asset ratio. The former are stuck near all time lows, the latter has begun to display an increase in volatility of late.
As always, we must point out that money supply growth still remains brisk, with money TMS-2 (broad true money supply) growing at a rate of 8.35% year-on-year. This is probably the one thing that continues to strongly support the market and makes it so resilient to other influences. Much of this money supply growth is currently due to an expansion in inflationary lending by commercial banks, especially in terms of commercial and industrial loans. A lot of this lending likely supports – directly or indirectly – various financial engineering activities, primarily stock buybacks.
Broad US money supply TMS-2: recently (as of the end of February) the annual rate of growth stood at a still hefty 8.35%.
Conclusion
The stock market continues to be impervious to what would normally be considered negative developments, ranging from a deterioration in macro-economic data to weakness in corporate earnings. As long as the market ignores seemingly “bad news”, it remains a bull market. However, as bull markets go, this one is very long in the tooth and has already some time ago attained bubble proportions. It is never knowable with certainty just how big a bubble will become; for instance, between the final quarter of 1999 and the first quarter of 2000, the market demonstrated that utter insanity can sometimes find expression in stock prices, as long as there is a “good story” and plenty of liquidity. Given the unprecedented (in the post WW2 era) central bank experiments underway since the crisis, it is especially difficult to gauge when and at what levels the bubble will expire. However, the longevity, intensity and persistence of a bubble is per se not proof that it will inevitably continue – it is only an indication of the likely amount of pain the market will eventually dispense.
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Yet stocks continue to climb and gold goes nowhere. It's the gold investors that have nothing but hope.
I was suppose to get some CHANGE! with that..
is that CSFB a fear index on the "fear of missing out"?
fear should be the titanic hitting the debtberg, ha - best one yet.
fucking debtberg...
'Since the crisis'....mandatory and hilarious pull quote in every financial soothsayer blogpost now. Big deal.
Judging by that chart I think its fair to say this is the most hope we have seen since Lehman.
Just because you have "gains" on paper now does not mean you wont get wiped out. We have a very sick economy. It's teetering on the brink. That's why owning gold and silver prevent you from getting completely wiped out 1929 style. Gold and silver will survive like it has the past 6000 years.
Why do you think central banks around the world hold gold, in tightly secured vaults?
"It's the gold investors that have nothing but hope."
To continue my theme from yesterday (and was shit on by way of strawman counterpoint), it's the gold miner investors that have nothing but hope (ie. the hope of continued solvency pending true price discovery). Phyzz investors aren't relying on hope.
A 10% retreat in stocks some time this year followed by QE4.
Welcome to the BSDM economy with 50 shades of Wall street......
Stawks = Dope, Gold = Hope. Assuming one has the moral and intellectual bandwidth to understand what the Fed and the other Fabian Bolsheviks are using the control of the Stawk (and bond) markets for.
It really is for the future of a freeman, socio-economic construct.
it isn't insanity in the least it is perfectly logical
Yes except it is your fear not theirs. The barometer is an inverted reflection. The magic trick is all psychological using propaganda to change the perception isn't. Bad news is good for you not them. Everything else is a reflection trick in propaganda to make you think the opposite and vice versa. From a logical perspective they run everything through a ~not gate to keep all the lies consistant.
The stocks markets are now trading on pyschology not economics. That is your economic fundamentals at play everyday in those supposedly unrigged markets.
~(fear) = hope
Those markets don't have the capacity for emotion just mimick it using logic. It is supposed to self regulate using meat puppet interperters to complete the illusion. The propaganda drip is proportional, the news outlets aka Bloombergs are part of the 'market'. The most important systematic market stability is the mental one if it is ultimately about power and control of humans.
How do you monitor fear to self regulate the markets one would ask?
https://en.wikipedia.org/wiki/Global_Consciousness_Project
Remember most news is artifically generated these days by computers, people just interpert and edit what the linguistic AI's construct.
The stocks markets are now trading on pyschology not economics...
i strongly disagree. fund managers make their bonuses by jamming stocks higher. ceos same same with levered buybacks. throw fed and other cb meddling into the mix and quite frankly i'm surprised stocks aren't higher. there is no market, there is no psychology, other than machine driven (greed).
The banksters, as always, will tell you when it's 'crisis time'....unfortunately and like always that will only be after they've skimmed around 50% from everyone first. THEN it will be bankster bailout time again.
“History records that the money changers have used every form of abuse, intrigue, deceit, and violent means possible to maintain their control over governments by controlling money and it’s issuance.” – James Madison
“Gentlemen, I have had men watching you for a long time and I am convinced that you have used the funds of the bank to speculate in the breadstuffs of the country. When you won, you divided the profits amongst you, and when you lost, you charged it to the bank. You tell me that if I take the deposits from the bank and annul its charter, I shall ruin ten thousand families. That may be true, gentlemen, but that is your sin! Should I let you go on, you will ruin fifty thousand families, and that would be my sin! You are a den of vipers and thieves” – Andrew Jackson, seventh President of the United States (1829–1837).
After Jackson said that, the zio syndicate tried to kill him. Twice.
"Even as one economic datum after another indicates that a major slowdown is underway that could well turn into a recession (keep in mind that this is not a certainty – at similar junctures in recent years, aggregate economic data recovered just in the nick of time"
true
But no "recovery" this go round. US entered a recession no later than Q1 2015
2013 was "saved" by tax increases january 1st, 2013. Brought income forward (in some cases YEARS) ... somewhere in the $200 - $400 billion range ... no doubt much reinvested, but much spent
2014 was "saved" by spending associated with ACA. Employment also partly driven by expiration of EUC at end of 2013.
2015??
I'm not seeing any drivers (of course, The Golfer could go to War)
me thinks we are already at war.
Why shouldn't hope be an investment strategy? We have billions of humans who walk through life having "faith" in something they can't see, yet supposedly have conversations with daily.
The invisible man in the sky.
https://www.youtube.com/watch?v=153NzPmD-2k
For the millionth time "the stock market is not the economy." The market is now a creation of the FED to enrich banksters. Period. Riddle me this Batman, why after 6 years to we still have mark-to-myth. Isn't the crisis over?
for the millionth time, fundamentals have nothing to do with stock prices, stock prices reflect the behaviors of an animal called man who SOMETIMES CAN BE rational, but who is fundamentally emotional and driven by herding emotions.
And that explains every bubble and crash in history.
it is momo market up. when the momo changes it will be fast and sudden. panic will ensue. it will gather no moss and roll hard to the valley of hardship and broken dreams. the great whooosh is coming.
i can't say when but sometime this year is my best guess. it is already sputtering...
'Mark to unicorn' is not a 'market', it's a hand held crowd control tool of the Fed.
Birinyi's Ruler still working great!
Nah, it's all the Fed. Their unwillingness to tighten after 75 months at zero, while ensuring that when they do tighten it will be slow and by an irrelevantly small amount, is telling the market to go ahead and run itself ever higher, as the Fed will not be the party pooper under any circumstance. The Fed is pleading with the market to go to epic bubble proportions, actions speak louder than words, so a bubble must be what they want.
Here here a hope trade. Hoping that multiples can keep expanding and companies keep buying back shares. Just remember someone is selling you their shares when you're buying them. Take out those corporations buying back shares and where would EPS be?
Hey asteroids, mark-to-market will only come back after the HUGE reset.
"The seventh seventh year, the year of release is near", The "den of thieves" created under false pretense will be cleared and the common man will extract their ounce of blood. God help us, it's going to be messy.
ECONOMIST FINDS THAT JOBS ARE IRRELEVANT FOR ECONOMIC GROWTH AS LONG AS ONLINE CLICKS KEEP GROWING
In the New New Economy, GDP will be replaced by Facebook likes as a measure of prosperity.
Source: www.financialpaparazzi.com
Hypothetically speaking of course, what do you surmise would realistically happen if electronic, algo-driven system trading was suspended for merely one day in the markets?
How can it be news that news has nothing more than, at most, a short term knee jerk reaction in stock prices? All one needs to know that it is a liquidity driven market. Nothing much matters as long as CBs supply the liquidity. Not earnings, not Greece, nothing at all. It is not over until the liquidity dries up. Ride the wave.