Thursday, September 14, 2017

Another Seinfeld Episode for Stocks

The panic-prone bull market in stocks since 2009 has been less panic-prone. The bull turned a bit anxious again last week as Hurricane Irma threatened to level all of Florida after Hurricane Harvey swamped all of Houston and surrounding areas. Irma did lots of damage, but so have previous hurricanes without any consequences for the US economy and stock market. There was also some lingering anxiety about geopolitical tensions with North Korea. However, for now, the US continues to seek nonlethal options, particularly more UN-imposed trade sanctions. Immediate worries about the US federal debt ceiling vanished last Wednesday, when President Donald Trump cut a deal with congressional Democrats to raise the ceiling for three months and agreed to provide emergency funds for Texas and Florida.

When Seinfeld aired on television, millions of Americans viewed the show that was mostly about nothing. Nothing ever happened, which viewers found very entertaining. The bull market has turned into the Seinfeld market. During every episode, investors are watching for something to happen. When nothing happens, especially nothing bad, investors are bemused and show their appreciation by throwing more money at the bull. So it’s back to some of the basics that continue to drive the bull market:

(1) Fundamental Stock Market Indicator. Our Fundamental Stock Market Indicator edged down in early September, but remains in record-high territory. It has been highly correlated with the S&P 500 since 2000. Its two components declined slightly in early September.

Our Boom-Bust Barometer has been rising in record-high territory since late September 2016. It is simply the ratio of the CRB raw industrials spot price index to initial unemployment claims. The commodity index has been moving higher recently, led by the soaring price of copper. Initial jobless claims remain near recent cyclical lows, but rose in early September as a result of Hurricane Harvey, according to the Bureau of Labor Statistics (BLS). It has been highly correlated with the S&P 500 since 2000.

The Weekly Consumer Comfort Index rose at the end of August to a 16-year high, but edged down at the start of September. This index has been highly correlated with the S&P 500 forward P/E since 1995. When consumers are happy, investors tend to be willing to pay more for earnings.

(2) Forward revenues. S&P 500/400/600 forward revenues all rose to record highs last month. Also impressive is that analysts’ consensus expectations for S&P 500 revenues remain remarkably stable at elevated levels, with current estimates implying a solid gain of 5.0% in 2018, following 5.6% this year.

(3) Forward earnings. The forward earnings of the S&P 500/400/600 continue to trend higher in record-high territory. During the first week of September, forward earnings for the S&P 500/400 both rose to record highs.

For more on this extraordinary bull market, see “Obama-Trump bull market is now up 268%,” a 9/13 post on CNN Money:
The S&P 500 would have to more than double its gains to surpass the 582.15% surge experienced during that bull market [from 1987-2000]. And it would need to keep going for almost four more years to take the title of the longest in history. "That's asking for a lot -- but I wouldn't rule it out," said Yardeni.

Wednesday, September 6, 2017

Global Synchronized Growth: Why Now?

The global economy is running on all six cylinders. It may not be a global synchronized boom, but it is the most synchronized expansion of economic activity that the global economy has had since the recovery from the 2008/2009 recession. The direction of change can be seen in the titles of the past four issues of the International Monetary Fund’s World Economic Outlook: “Subdued Demand: Symptoms and Remedies” (Oct. 2016), “A Shifting Global Economic Landscape” (Jan. 2017), “Gaining Momentum?” (Apr. 2017), and “A Firming Recovery” (Jul. 2017).

Why is this happening now? The global synchronized expansion may be attributable to the plunge in the price of a barrel of Brent crude oil from a 2014 peak of $115.06 on June 19 to a low of $27.88 on January 20, 2016 followed by the recovery to $52.75 last week. Over this same period, Debbie and I calculate that global crude oil revenues dropped from an annualized $3.2 trillion during June 2014 to $952 billion in early 2016, back to $1.5 trillion currently.

The initial freefall in revenues depressed the global energy industry, which slashed capital spending rapidly around the world. The rebound in oil revenues has given a lift to this industry, but surely not enough to explain the global synchronized expansion. The flip side of crude oil revenues is outlays by users of crude oil. The drop in the cost to users of oil is like a 50% cut in the global “oil tax” on consumers. Now that the downside of the energy price shock is over, the benefits to the global economy are rising to the surface of the barrel. Let’s review some of the recent more buoyant global data:

(1) GDP & profits. The growth rate in real GDP was revised higher last week, from 2.6% to 3.0% (saar) for Q2. On a y/y basis, real GDP was up 2.2%. It has been fluctuating around 2.0% since mid-2010.

(2) Europe. The Eurozone’s Economic Sentiment Index rose to 111.9 during August, the highest since July 2007. It is highly correlated with the region’s real GDP growth rate on a y/y basis, which was 2.2% during Q2, the best pace since Q1-2011. The Eurozone’s M-PMI rose to 57.4 last month, matching June’s reading, which was the highest since April 2011.

(3) China. China’s official M-PMI edged up to 51.7 during August, the 11th consecutive reading above 51.0. However, its NM-PMI declined from 54.5 during July to a 15-month low of 53.4 last month.

(4) Japan. Japan’s real GDP rose 4.0% (saar) during Q2, the fastest such pace since Q1-2015.

(5) Global manufacturing. Last month, the global M-PMI rose to 53.1, the highest since May 2011. Solid increases were registered for both the developed economies and the emerging ones.

Tuesday, August 29, 2017

Stocks Are Fundamentally Sound

The stock market has been like the Starship Enterprise on “Star Trek.” It continues to “boldly go where no man [or woman] has gone before.” The S&P 500 has been setting new record highs with only two significant corrections since March 28, 2013, when it was 1569.19. It is up 58.5% since the prior bull market record high as of the most recent record high of 2480.91 set on August 7.

In other words, it has been 1,594 days in outer space. During the previous bull market of the 2000s, it was in outer space (i.e., exceeded the previous bull market record high) for only 133 days. Granted, the air is thin in outer space, as measured by various valuation gauges. However, there’s no gravitational pull either, so the Starship S&P 500 can continue to fly as long as it doesn’t run out of rocket fuel. The fundamental gauges for the S&P 500 that I watch show plenty of solid rocket fuel:

(1) The Fundamental Stock Market Indicator (FSMI) rose to a new record high during the week of August 19. It has been very highly correlated with the S&P 500 since 2000.

The FSMI isn’t a leading index of the S&P 500. Nothing leads the S&P 500, since it is a leading indicator itself, and is one of the 10 components of the Conference Board’s Index of Leading Economic Indicators. My indicator simply confirms or raises doubts about the underlying trend in the stock market. Its new high certainly confirms that the bullish trend in stocks remains intact.

The FSMI comprises just three components that reflect the underlying strength or weakness in the domestic and global economies. It is the average of the Consumer Comfort Index (which is a four-week average) and the four-week average of the Boom-Bust Barometer, which is the CRB raw industrials spot price index (weekly average) divided by weekly initial unemployment claims.

(2) The CRB raw industrials spot price index is up 30% since it bottomed late in 2015. It had stalled during late 2016 through the first half of 2017, but has been advancing again in recent weeks. One of its 13 components is the price of copper, which has gone vertical in recent days.

(3) The Boom-Bust Barometer (BBB) is simply the ratio of the CRB raw industrials spot price index divided by initial unemployment claims. To smooth it out, I track the four-week moving average, which is extremely procyclical. The BBB has taken off like a rocket ship since late 2015 and has been in record-high territory this summer.

It is also highly correlated with the S&P 500 since 2000. That’s not surprising since it is highly correlated with another very procyclical indicator, namely S&P 500 forward earnings.

(4) Consumer confidence is the third component of the FSMI, which averages the Weekly Consumer Comfort Index (WCCI) and the BBB. While the BBB is highly correlated with the S&P 500, the FSMI better tracks the stock index. That’s because the BBB is highly correlated with forward earnings and the WCCI is highly correlated with the S&P 500 forward P/E. The WCCI has recovered sharply since late 2011, and so has the P/E.

Thursday, August 24, 2017

S&P 500 Earnings: The Shining

The earnings recession is over. S&P 500 operating earnings per share were eclipsed by the energy recession from Q4-2014 through Q2-2016, when the Thomson Reuters (TR) measure was flat to down on a y/y basis. Growth resumed during the second half of 2016 and first half of 2017.

The TR measure of earnings rose 10.1% y/y during Q2-2017 to a new record high, while revenues rose 5.7% y/y.

That put the S&P 500 operating profit margin (based on TR data) at a record high of 10.8%. “Ouch” is the sound you just heard from all those reversion-to-the-mean bears, who can go back to sleep. The 52-week forward outlook looks outstanding:

(1) S&P 500 forward revenues per share, which tends to be a weekly coincident indicator of actual earnings, continued its linear ascent into record-high territory through the week of August 10.

(2) S&P 500 forward operating earnings per share, which works well as a 52-week leading indicator of four-quarter-trailing operating earnings, has gone vertical since March 2016. It works great during economic expansions, but terribly during recessions. If there is no recession in sight, then the prediction of this indicator is that four-quarter-trailing earnings per share is heading from $126 currently (through Q2) to $140 over the next four quarters.

Some sectors shone more brightly than others during Q2. Here is the y/y performance derby for the S&P 500 revenues growth: Energy (14.3%), Tech (9.7), Industrials (7.8), S&P 500 (5.7), Utilities (5.3), Consumer Staples (4.8), Financials ex-Real Estate (4.4), Consumer Discretionary (3.5), Health Care (2.4), Real Estate (0.8), Materials (-1.4), and Telecom (-3.9).

Here is the same for earnings growth: Energy (returned to a profit), Telecom (45.8%), Tech (34.3), S&P 500 (19.6), Utilities (14.2), Financials ex-Real Estate (13.0), Industrials (12.5), Health Care (8.6), Consumer Staples (6.7), Consumer Discretionary (1.9), Materials (-0.4), and Real Estate (-14.6).

Tuesday, August 8, 2017

Four Deuces Scenario

While real GDP growth continues to amble along at a leisurely pace of 2.0% y/y, the labor market is sprinting at a fast pace. In the 7/31 Morning Briefing, I described my 2-2-2 economic scenario, with real GDP continuing to grow around 2.0% y/y, inflation remaining at or slightly below 2.0%, and the federal funds rate peaking late next year at 2.00%.

One of my accounts suggested the Four Deuces (2-2-2-2) scenario, adding the unemployment rate to the Three Deuces scenario. The jobless rate was 4.3% during July and could fall to 2.0%, which would be the lowest on record starting in January 1948. The low for this series was 2.5% during April and May 1953. A new record low, even at 2.0%, is conceivable if the Three Deuces scenario, continues to play out. That’s because having slow economic growth with subdued inflation and low interest rates increases the odds of a very long economic expansion, with the labor market continuing to tighten.

That would be ideal for my “long good buy” scenario for the stock market, since bull markets usually don’t end until the unemployment rate falls to its cyclical trough and starts moving higher. The stock market also does well when the Misery Index, which is the sum of the unemployment rate and the inflation rate, is falling. Indeed, there is an inverse correlation between the Misery Index and the S&P 500 P/E since 1979. Consider the following:

(1) The sum of the forward P/E and the Misery Index has averaged 23.9 since 1979. It was 23.6 during June, suggesting that the stock market is fairly valued.

(2) A lower Misery Index, as a result of a further decline in the unemployment rate, would leave more room for P/E expansion without irrational exuberance. If the unemployment rate drops from 4.3% to 2.0% and the inflation rate remains at 2.0%, that would lower the Misery Index, leaving room for a reasonable increase in the forward P/E from 17.8 currently to 19.9 (since 19.9 + 4.0 = 23.9, which is the average of the Misery Index since 1979).