Plugging my ears (as I bet his wife does regularly)
Off to 90-degree days in Florida this week, with a Tuesday flight to Tampa, filled with fans after Monday night football in Pittsburgh. A fellow sitting behind me, obviously having attended, loudly opined his read on Steeler nation that we are “fair weather fans.” “What Pittsburgh fans don’t understand is that Miami always falls apart in the 3rd and 4th quarters...Two horrible teams playing each other.” And on and on for 2.5 hours. Will he please stop talking?! At dinner in Sarasota with seasoned advisors, the elder is particularly worried, especially as he invests for a convent of financially savvy nuns (who, he shared, voted for Trump last time and expect to do so again, though they don’t always approve of his behavior). He fears a recession, even as credit spreads are tight and stocks are at highs—to which I thanked him for helping extend the Wall of Worry and this most-hated bull market. Investor sentiment remains muted despite the recent rally, with the 13-week moving average stuck below the 20th percentile and the latest Barron’s poll putting bearish investors at a 2-decade high. This represents excellent support for the overall market, cyclical stocks and risk-on factors, as do daily new highs, which are averaging more than double the 100 per-day level defined as bullish. This week’s 90th anniversary of Black Tuesday (Oct. 29, 1929) fell on the same day the NYSE cumulative advance/decline line set a record high, confirming the rally to new highs. Historically, 6-month forward performance following an all-time high skews to the upside, with outsized declines very rare.
We met an affable University of Michigan grad in Sarasota who talked sports for quite awhile with my colleague (more sports!). He joked that “everything I learned about economics in college I might as well throw out the window.” (I’ve said this many times over the last 12 years.) He’s not happy that the Fed’s growing its balance sheet again, and is dubious about explanations for rising repo rates. “I hope I don’t need to learn all about this stuff.” (I feel the same.) He asked about gold as an investment and regarding election season lamented, “I wish there was a balanced TV program to get news.” (Same! Why, this man is brilliant!) At a bank meeting there was more talk of repo rates, gold as an investment, and of course, sports! One advisor said he’s asked about an imminent recession almost every day, wondering “can we be talked into recession?” (Seriously?) This came up again at an end-client event where a gentleman said, “I hear we’re going into recession.” (Hogwash!) Amid a rousing political discussion, our advisor host remembered two clients in 2016, one worried about a Clinton win and the other about a Trump win, each insisting on a move into cash against his advice that “Home Depot will still be selling the day after the election.” Good times. Fed policymakers acknowledged growth has moderated but gave no sense anything worse is on the horizon. Indeed, Chair Powell took pains to suggest neither further cuts nor a new round of increases are likely anytime soon. In eight “mid-cycle’’ adjustments since 1982 (in which the Fed cut rates at least three times without hiking in between), the S&P 500 rallied strongly, 14% on average six months out. Another market positive from the Fed: its launching of quantitative easing (QE)-lite to buttress the repo market has added $120 billion to its balance sheet the past five weeks, almost twice the monthly amount during the most aggressive post-crisis QE injections. Markets love liquidity.
Upward revisions to Q3 earnings-per-share estimates have been weaker than normal this reporting season, but the percentage of S&P companies beating earnings has been close to 84%, about 5 percentage points higher than normal. Companies beating expectations by even small margins have tended to be rewarded with elevated excess performance, consistent with the muted investor sentiment going into earnings season. But new record highs needn’t preclude dividend stocks. Ned Davis Research says the percentage of S&P stocks with dividend yields above the 10-year Treasury yield is 62%, the third highest on record. And the median P/Es of the top quartile of dividend payers relative to the lowest quintile is near January 2002 lows, making high-yielding dividend payers their cheapest in 18 years. Overall, dividend stocks are as cheap as they were in 2016 on an asset class basis, but unlike 2016, they also are cheap relative to other stocks. They love dividends in Florida, where I met some fascinating people this week. In Bradenton, we aborted a planned meeting with an advisor at a Starbucks (too crowded)—odd as he’d never been to a Starbucks and doesn’t drink coffee. What?! Coffee is last thing on earth I’d give up and, I believe, is proof of God’s existence! His many older clients worry constantly about losing any money at all. At yet another Starbucks in Sarasota, two strangers were discussing landscaping as one suggested, “Trees are people,” while a lady was lingering inside in bare feet. Good, good times.
- What now, bears? Nonfarm payrolls rose a stunning 223,000 with revisions in today’s October report (and that doesn’t include an additional 42,000 jobs if adjusted for the GM strike). Also, household employment jumped 241,000 for its sixth straight monthly gain, the unemployment rate ticked up to just 3.6% (a healthy sign as more people entered the job market) and average hourly earnings rose at a 3% year-over-year (y/y) rate, good enough for real wage gains but low enough to keep the Fed on hold. The report sent bond yields climbing, good news for Financials and more fuel for a potential market melt-up.
- The consumer is healthy Bolstered by continuing job growth and rising real wages, consumers mostly are ignoring trade and impeachment headlines—their assessment of present conditions actually improved in the Conference Board’s October survey of confidence, which remained elevated, though off cycle highs. Spending has moderated but is still solid, and was by far the biggest contributor to Q3 GDP, which expanded an above-consensus 1.9%.
- Housing is additive Residential investment rose at a 5.1% annual rate in Q3, its first quarterly gain in two years. And September’s pending sales jumped 1.5% to their highest level in 12 months, a trend buttressed by low mortgage rates and rising homeownership rates, particularly among those under 35 years of age. We love millennials!
- Manufacturing hasn’t gotten the ‘good news’ memo … The Institute of Supply Management monthly survey of U.S. manufacturing activity improved slightly in October on a bump in new orders, but at 48.3, it was slightly below consensus and in contractionary territory a third straight month. Only five of 18 industries reported growth. Markit’s own survey showed activity expanding on the best growth rates in new orders and production in six months.
- … nor has capex After increasing in 2018 by the fourth-largest y/y amount on record, capital expenditures (capex) have slowed dramatically on uncertainties stemming from the U.S.-China trade war, falling in Q3 a second straight quarter and at a 3% annual rate, the biggest drop-off in four years. This shaved 40 basis points off Q3 GDP.
- Rooting for China to avoid recession The country’s official manufacturing and services PMIs came in softer than expected in October, adding to Thursday’s selling pressure on reports that (anonymous) Chinese officials are casting doubt on the prospects of a long-term trade deal with the U.S. However, another survey released overnight, the closely watched private Caixin gauge of manufacturing activity, unexpectedly rose to 2.5-year high, suggesting the worst may be over.
Time to think international? Equity markets outside the U.S. are broadly improving, with developed and emerging markets, including Europe and Japan, starting to reverse 2018-2019 price downtrends. This performance comes as global leading indicators appear to be on the verge of a renewed upturn. If the trends hold, global indexes arguably offer upside opportunity—only 20% of the 49 equity markets tracked by MSCI are within 5% of record highs.
You’re up, offense Leadership has ebbed and flowed between offense and defense through Q2 and Q3, with offense/cyclicals once again showing evidence of resuming leadership, led by Semiconductors. Participation is broadening to Financials, Discretionary, Industrials, Materials and even selectively in Health Care, FundStrat notes.
What about shoes? Baby boomers and millennials, which together account for over half of consumption, generally spend differently from one another with notable exceptions. Wine, sporting events, luggage and ice cream should enjoy a tailwind from the aging of both groups, reports Empirical Research, citing a Bureau of Labor Statistics consumer expenditure survey. The outlook isn’t so encouraging for beer (if you can believe that!).