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A quiet crossroads

Brouwer & JanachowskiMay 19, 2016

A week of slightly better economic numbers here, here and here. We think they are more of the “not as bad as we feared” variety rather than “yes finally” in the eighth year of this not-so-great recovery. Stocks were flat. We have had nearly eight weeks of the market going nowhere. If you exclude two largish drawdowns last August and in February, both of which quickly corrected, the market has been flat since end 2014. Not so bonds and especially U.S. Treasuries, which, even after a recent rate uptick, have returned around 12% in the last year. Here's what caught our attention.

  1. Stocks: when stocks are flat you tend to get statements like “The market has never/always gone <direction> when <circumstances>”. They are usually variations of stock market lore or some end-point dependent data mining. We take most of them with a large pinch of snuff and remind ourselves when dealing with limited data sets. We know this about stocks:
  1. They are more expensive now than 12 months ago. Because…
  2. Operating and reported earnings are down 10% to 20% from their peak….
  3. Mostly caused by energy, industrials and tech (yes, down 30%)
  4. But dividends and buy backs grew
  5. And companies mostly beat their numbers (but remember our note on this)
  6. So with no real direction to stock, they became more expensive

But we feel settled about the market. Sure, we expect some short-term hits. A “Yes” to Brexit, a China currency fall out, a rate move, some election surprises, could all find a thin bid on a vacationing trading desk and hit the market hard. But we think there are reasons to be confident over the next 12 months or so.

  1. The Fed: we were pretty sure there would be no hike in June. The FOMC minutes showed us less a divided Fed than one intent on following data. Good. They would like to hike because, heck, unemployment looks ok, the economy is better and the international “developments” are less hairy than a few months ago. But we don't think they will and if a rather bizarre speech by Vice Chair Fischer is anything to go by the “natural” interest rate remains very low. Here's the chart:Blog 1 51916fischer20160519a.pdf copy

You may also like this from The Economist. It’s about reforming the Fed and, especially, how the Regional Fed votes on its members that are drawn, shockingly, from bankers. It means that the Fed has a tendency to favor higher rates and a steeper yield curve. Banks make more money from a steeper yield curve and higher spreads.

  1. And last: what do you do if the second largest central bank promises to buy as many corporate bonds as necessary and gives you a three-month heads up? Why you start issuing bonds like crazy. See the 2016 bar here:Blog 2 51916HYInvestment_Grade_Corporate_Bond_Issuance_-_Credit_Market_Daily___Corporate_Bond_Insights

Now, it could all end in tears but for now, it's practically a one-way trade.

Bottom Line: We look for stable growth and quiet markets. We have started to look at some value stocks. We think there’s time. But if valuations stretch, they could be a place to be. Stay tuned.




The relentless advance of technology

Goldman Sachs trades more energy that Exxon and Chevron

Trouble making pandas

Foreign born workers are 17% of the labor force

Surprise! Bank insiders traded ahead of financial crisis


--Christian Thwaites, Brouwer & Janachowski, LLC


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