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-- Weekly Market Update for the Week Commencing 14th November 2016
Big Picture
View
Here is a summary of our big picture
view of the markets. Note that our short-term views may differ from our
big picture view.
The BULL market in US Treasury Bonds that began in the early 1980s ended in early-2015, but there will be many years of topping action in bond prices and bottoming action in bond yields before major new trends get underway. (Last update: 29 June 2015)
The stock market, as represented by the S&P500 Index, commenced a secular BEAR market during the first quarter of 2000, where "secular bear market" is defined as a long-term downward trend in valuations (P/E ratios, etc.) and gold-denominated prices. This secular trend will bottom sometime between 2018 and 2020. (Last update: 29 June 2015)
A secular BEAR market in the US Dollar began during the final quarter of 2000 and ended in July of 2008. This secular bear market will be followed by a multi-year period of range trading. (Last update: 09 February 2009)
Gold commenced a secular bull market relative to all fiat currencies, the CRB Index, bonds and most stock market indices during 1999-2001. This secular trend will peak sometime between 2018 and 2020. (Last update: 29 June 2015)
Commodities,
as represented by the CRB Index, commenced a
secular BULL market in 2001 in nominal dollar terms. The first major
upward leg in this bull market ended during the first half of 2008, but
a long-term peak won't occur until 2018-2020.
(Last
update: 29 June 2015)
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Outlook Summary
Market |
Short-Term (1-3 month) |
Intermediate-Term (6-18 month) |
Long-Term (2-5 Year) |
Gold | N/A |
Bullish (10-Oct-16) |
Bullish |
US$ (Dollar Index) | N/A |
Neutral (17-Aug-16) |
Neutral (19-Sep-07) |
US Treasury Bonds (TLT) | N/A |
Bearish (19-Oct-15) |
Bearish |
Stock Market (DJW) | N/A |
Neutral (14-Nov-16) |
Bearish |
Gold Stocks (HUI) | N/A |
Bullish (10-Oct-16) |
Bullish |
Oil | N/A |
Neutral (26-Oct-15) |
Bullish |
Industrial Metals (GYX) | N/A |
Neutral (10-Oct-16) | Bullish |
4. Long-term views are determined almost completely by fundamentals and intermediate-term views
are determined by a combination of fundamentals, sentiment and technicals.
Last week's posts at the TSI Blog
Update on the Comex fear-mongering
Summary of current
thinking/positioning
1) Thinking that new rebounds
for gold and the associated mining indices will soon begin, but continuing
to expect that the overall corrections will extend into Q1-2017. Slowly
picking away at high-potential gold-mining stocks.
2) Expecting
that 2017-2018 will be a very bullish period for commodities. Gradually
building up long-term exposure to non-gold commodities while acknowledging
that the early-2016 lows could be tested prior to the start of the
aforementioned bullish period.
3) Prior to last week was hedged
against short-term commodity-price weakness via EEM (emerging market) and
USO (oil) put options, but took profits on hedges last week. Looking for
new opportunities to establish hedges as still concerned about short-term
downside risk.
4) Thinking that government bonds have commenced a
long-term bear market, but that the US Treasury Bond is close to a
short-term price bottom.
5) Positioned for short-term downside in
the US stock market via QID (leveraged NDX bear fund) call options,
although the strength of last week's expected rebound has raised some
doubts about the appropriateness of this position.
6) Thinking that
the Dollar Index is within 1.5 points of a 1-2 month top, but that it will
probably move to new multi-year highs during the first quarter of 2017.
7) Maintaining a large cash reserve in recognition of the downside
risk in almost all equities (current cash percentage is around 45%), but
looking for opportunities to reduce cash and add to gold plus commodity
exposure.
Economic Risks of
a Trump Presidency
In a
10th May post at the TSI Blog we speculated on the consequences of a
Trump presidency. Our conclusion back then was that a Trump presidency
would be a significant plus in the area of foreign policy*, but that there
wasn't a good reason to expect the US economy and financial markets to
fare any better or worse under Trump than they would under Clinton. With
it now confirmed that Trump will be the next US president it is time to
revisit the topic, although today's discussion will focus on the two main
economic risks associated with having Trump, rather than the potential
Democratic Party alternative, in the White House.
Before getting
into any Trump-specific issues it is worth mentioning that the most potent
threat to the US economy comes from the Federal Reserve. By undermining
savers, promoting widespread mal-investment and generally distorting price
signals throughout the economy, the Fed is an omnipresent obstacle to
economic progress -- a relentless force for inefficiency and wealth
destruction. This has been the case to some extent for 100 years, but over
the past 9 years the Fed has gone to far greater lengths than ever before
to 'manage' the economy. In particular, it has implemented by far the most
aggressive monetary intervention in its history, leading, predictably, to
the weakest post-recession recovery in generations.
Regardless of
what actions Trump takes, the actions that have already been taken by the
Fed all but guarantee that the next US recession will be devastating. For
Trump's sake the next recession better start during the first half of
2017, because if it starts much later than that then he will get a lot of
the blame for the Fed's dirty-work.
The first of the two risks
we'll highlight is that Trump will follow through on his campaign rhetoric
and implement policies that get in the way of international trade, such as
placing hefty tariffs on imports from China.
The problems facing
the US economy have nothing to do with an inability on the part of
previous administrations to negotiate favourable trade deals and cannot
possibly be solved or even ameliorated by tariffs. Putting in place
tariffs and other restrictions on international trade is akin to imposing
economic sanctions on yourself. It is patently stupid.
Some special
interest groups will always profit from tariffs, but the economy as a
whole cannot benefit because the additional gains of the aforementioned
special interests must come at the expense of the broad category called
"consumers". When consumers are forced to pay more for some products than
they would otherwise be paying, they necessarily spend less on other
products. Also, investment ends up getting directed towards businesses
that only appear to be economically viable due to price-distorting
tariffs, which results in other more-deserving investment opportunities
being ignored.
The second Trump-specific risk is the potential for
a massive increase in the US fiscal deficit. There would also have been an
increase in the government's deficit under a Clinton presidency, but the
deficit will be much greater if Trump does what he has promised to do.
That's why Trump's widely-unanticipated electoral success was followed by
a plunge in the T-Bond market.
As explained in the article posted
at
http://crfb.org/papers/lame-duck-president-2017, spending increases in
excess of revenue increases are already 'baked into the cake' as a result
of budgets dictated by previous presidents and Congresses. Specifically,
the linked article points out that 150 percent of new revenue a decade
from now is pre-committed to spending growth scheduled under current law.
Moreover, this should be viewed as an unrealistically-optimistic forecast
because it assumes steady inflation-adjusted revenue growth. A more
realistic forecast would account for the sizable decline in
inflation-adjusted revenue that will be caused by a recession within the
next few years.
Trump has not only promised to do nothing to
curtail the federal government's growing deficit, he has effectively
promised to make it much worse by implementing large tax cuts.
As
an aside, tax cuts are unequivocally beneficial to the economy if they are
genuine, but a tax cut that isn't funded by reduced government spending is
not a genuine tax cut. It is just a type of Keynesian stimulus program,
and like all Keynesian stimulus programs it will potentially boost
economic activity in the short-term at the cost of slower long-term
progress.
The reason is that if a tax cut isn't funded by the
government consuming less resources, then one way or another it will have
to funded by the private sector. Obviously, the private sector cannot
benefit from a tax cut that it will have to pay for. It's the old
TANSTAAFL** again. There's no way around it.
In other words, Trump
isn't promising to implement genuine tax cuts; he is promising to
implement another short-term stimulus program.
A large increase in
the federal deficit requires a rapid increase in the supply of government
bonds. If the rising supply of government bonds is not monetised by the
Fed then it will crowd-out private-sector borrowing, whereas if it is
monetised by the Fed it will result in a bigger inflation problem.
Furthermore, if interest rates rise and government indebtedness rises, the
interest expense on the debt will rise not only in absolute terms but also
as a percentage of total government spending. This could lead to a debt
spiral, with increasing indebtedness prompting a disproportionately-large
rise in interest expense and a further increase in the amount of debt.
In summary, the main Trump-specific economic risks involve
protectionism and a rapidly-rising government deficit.
There are
also some Trump-specific economic positives and opportunities, at least
relative to the alternative. For example, even though Trump's plans will
result in higher deficits, the total amount of government spending under
Trump will probably be lower than it would have been under Clinton. That
is, the government will be consuming/wasting less resources under Trump
than would probably have been the case under Clinton. This is because
Clinton was planning large tax increases to close the gap between
government revenue and government spending. For another example, there is
a possibility that a Trump presidency will result in fewer
growth-hampering regulations.
Of course, regardless of what Trump
does the Fed will be behind the scenes busily wreaking havoc.
*Due to Trump running a foreign policy that is less concerned about
regime change, less eager to intervene militarily in the affairs of other
countries, and generally less offensive (in both meanings of the word).
**There Ain't No Such Thing As A Free Lunch
Commodities
Copper
The industrial-metals markets were incredibly strong last week, with
copper leading the way.
In last week's Interim Update we noted that
at Wednesday's close the copper price had risen for 13 days in a row and
at the time of writing was up an additional 8c during Asian trading on
Thursday. It managed to hold that 8c gain during US trading on Thursday,
taking the winning streak to an extraordinary 14 days and pushing the
daily RSI(14) to the highest level in more than two decades. In other
words, going into Friday's trading session the copper market was, by one
short-term measure, more 'overbought' than it had been at any time over
the preceding 20 years.
That wasn't the end of the surge, though.
On Friday there was further acceleration, with CME copper futures
momentarily trading as high as US$2.73 (up 0.19 on the day) before
reversing course and ending the day with a small loss.
Friday's
reversal could obviously have marked a short-term top, but there's no way
of knowing for sure.
Last week's spectacular price surge cannot be explained by changes in
the supply of or the commercial demand for physical copper. Instead, it
was almost certainly driven by momentum-following speculation. This
creates the risk that the bulk of the gain will be given back.
As
an aside, bouts of momentum-following speculation are always supported by
fundamental stories that are often only superficially plausible. In this
case, we have the story that Trump's plans to boost infra-structure
spending will greatly increase the demand for copper. Looking beneath the
surface, however, we see that:
1) Considering his plans to cut
taxes, increase military spending and leave the most costly entitlement
programs alone, Trump's ability to obtain additional funds for
infra-structure development will be very limited.
2) Even if Trump
were able to follow-through on his infra-structure spending promises, the
spending would be spread over several years and would probably not
significantly alter global copper consumption.
3) Government
infra-structure spending does not constitute a net addition to the
economy. It involves the government taking resources that would have been
used elsewhere and employing the resources in projects that are
politically-motivated rather than economically-motivated.
That
being said, we are not trying to imply that copper's recent price surge
will turn out to be a 'flash in the pan'. The price action creates
significant short-term downside risk, but the weekly close above the March
high ($2.33) is evidence of a bullish long-term shift. The fact that last
week's price surge happened after the speculative position in copper
futures had reached the top of its bear-market range also points to a
bullish long-term shift.
To put last week's volatility into
perspective and illustrate the bullish long-term shift, here's a weekly
chart of the copper price. The blue line on this chart is the 80-week MA.
Notice that copper has just achieved the first solid weekly close above
its 80-week MA in more than 5 years.
Former resistance in the $2.30s should act as support during the next
short-term correction.
Natural Gas (NG)
NG
trended upward from what we think was a major bottom in March-2016 to a
short-term top in October. During this 7-month period it was one of the
strongest commodity markets, with the price more than doubling.
The
March-October rally was probably the first leg of a new bull market, but
bull markets don't progress in straight lines. Instead, they periodically
give back a portion of their gains as some speculators take profits,
commercial traders put hedges in place and 'weak hands' get shaken out.
Following the sort of gain that the NG price achieved, a decline to
the 200-day MA would be a normal occurrence. The 200-day MA happens to be
slightly below important lateral support at $2.50, which, in turn, is not
far below last Friday's low. Therefore, there's a decent chance that NG's
'retracement' is almost complete.
The Stock Market
A possible 6-12 month
bull market extension
The odds have tipped in favour of
the US equity bull market continuing for up to another year. Taking into
account the high valuation, the equity bull market's advanced age, the
lackluster economic/earnings backdrop and the likelihood that interest
rates are now trending upward, how is this possible?
It is possible
for monetary and technical reasons.
First, the following chart
shows that the year-over-year (YOY) growth rate of US True Money Supply
(TMS) has begun to accelerate upward from the very narrow horizontal range
in which it oscillated for almost three years. This is not happening
because the Fed has resumed its money-pumping, but because the commercial
banks are responding to rising interest rates by creating new credit at a
faster pace.
Second, at no time over the past several months has there been a
meaningful bearish divergence between the senior US stock indices and the
'market internals'. Furthermore, during last week's rally the 'internals'
were stronger than most of the indices. For example, whereas the S&P500
Index (SPX) rebounded to a lower high last week, the UWSPX/SPX ratio (the
Unweighted SPX divided by the capitalisation-weighted SPX, a measure of
breadth within the S&P500) made a new high. This is a bullish divergence.
Third, the Dow Transportation Average (TRAN) has decisively broken
above intermediate-term resistance.
TRAN is now in a similar
position to copper. Both have done enough to signal long-term bullish
reversals, but both are now very extended on a short-term basis (TRAN's
daily RSI is at a 3-year high).
If there is a significant extension to the bull market it is likely to
encompass a change in leadership, with commodity-related equities and
other "inflation" plays leading the way.
Current Market
Situation
Different US stock indices put in very different
performances last week. Among the senior indices, the biggest contrast was
between the performances of the Dow Industrials Index and the NASDAQ100
Index (NDX). The following charts show that the Dow rocketed to a new
all-time high last week while the NDX remains near support defined by its
lows of the past three months.
We aren't yet sure what to make of the recent Dow-NDX divergence. More
information is required. For example, a decline in the Dow to below its
August high combined with a daily close below 4550 by the NDX would
indicate that last week's Dow breakout was a 'head fake' and that the
market was still immersed in the short-term bearish trend that began in
August.
This week's
significant US economic events
[Notes:
1) The most important events
(to the markets) are shown
in bold. 2) A list of global economic events can be found
HERE]
Date | Description |
Monday November 14 | No important events scheduled |
Tuesday November 15 |
Retail Sales Import and Export Prices Business Inventories |
Wednesday November 16 |
PPI Industrial Production Housing Market Index TIC Report |
Thursday November 17 |
CPI Housing Starts |
Friday November 18 | Leading Economic Indicators |
Gold and the Dollar