The Week in Review April 13th 2019
In this issue :
# Danger Zone …
# Short Oil !
# How Weak Is The Swiss Economy ?
# What to Expect Next Week
# Last Week In Review
# DANGER ZONE …
After a 15 % rally in global indexes, the best first quarter in equities for years, at a time where US corporate earnings are expected to grow by only 4 % and where the world economies are slowing down in a coordinated manner, we feel we now are reaching a HIGH DANGER ZONE in global equities.
The Nasdaq Composite rose 27 % since its December bottom and is reaching a double resistance as most North American Indexes are.
Most investors have missed the rally in January and have then gradually come back into equities at higher levels in February and March, climbing the proverbial wall of worry. They are long equities for now but, for most, are not sitting on fat profits.
At current leeks, a turn in the market will not necessarily be taken as a Buy on dip opportunity. Many analysts on the contrary may be looking for a double top to end this secular bull market rather than expect new highs.
To be Franck, it is difficult to see hwy there should be a new high.
Earnings are no longer growing, Trade Wars are taking the world to the lowest growth rate since 2011, US interest rates have gone up, and inflation will collapse as soon as Oil prices tank as we expect, making real interest rates in the US relatively high vis a vis the rest of the world.
The strength and magnitude of the rally has taken analysts by surprise and the indexes are standing way above the consensus target for the rest of the year and analysts have been extremely busy raising their targets to stay on top of the game.
It is in fact the highest ratio of INCREASES versus DECREASES in Target prices ever recorded and this is usually NOT a good sign
In recent weeks, Wall Street Analysts have been technically bullish and fundamentally bearish. They have been raising price targets on stocks within the S&P 500. At the same time, they’ve been lowering their earnings estimates. Usually, there is a positive correlation between the two. When there is a divergence like this, it usually indicated a correction ahead.
Stocks are also back to extremely high levels of valuation in the USA and bullishness has reached extremes again.
At 19x Prospective earnings, the SP500 is back to levels of valuations that prevailed before the Q4 correction while earnings expectations are coming down sharply.
Let’s be perfectly clear though, for the time being, we have NONE of the technical and sentiment indicators that normally point to excesses or an imminent top and reversal, as was the case in September on in January of last year.
However, the combination of rising markets, declining earnings, increasing real interest rates – as inflation falls sharply – and analysts rushing to increase their targets are painting a picture where any adverse and/or unexpected event could send the markets rolling.
At best, we do expect a correction to unfold soon. What we do not know is whether this will be just a correction before a challenge of the old highs and new record highs before the summer – in which case the 2009 rally will have peaked in 2019 rather than 2108 – or whether we will be marking a significant double top for this ten-year cycle before a severe downdraft in the second half of the year.
The year-to date performance is strong and investors should focus on to preserving the gains made in the first quarter.
Our scenario is still one where the markets are going up till June July, after a light correction in April, as money continues to pour into equities and economic numbers remain supportive, but we see a sharp slow down ahead – apart from China – and panic setting in.
Global Equities are highly overvalued, Oil is ripe for a major top and Gold should be accumulated.
We have also reached the stage where we believe it is probably right to re-instate our strategic shorts on technology stocks gradually.
Investors have been piling in the leaders of the 2009 -2018 bull market again and the recent upleg took their prices up 40 % and valuations back to stratospheric levels.
Will these valuations be supported by the 1st quarter earnings ?
We doubt it ! There are probably more negative surprises to come than positive and the entire business model of some of these companies is being questioned, even if the results are still strong.
The LYFT and UBER’s IPOs may be marking the end of these cash burning unicorns that we see diapering over the next decade.
Four stocks that deserve to be looked at for the SHORT side are Google, Facebook, Amazon and Netflix. The tide has turned for the business model of all these unicorns and we are not sure they can continue to withstand valuations at 68x or 87x times earnings.
Even if earnings where to double every year, which they are not, it would take more than 10 years to recoup the returns inside by the current valuations.
Facebook and Google are facing major regulatory scrutiny as well as privacy concerns.
This reporting season could be the straw that broke the Camel’s back.
AMAZON INC. AMZN US
NETFLIX NFLX US
FACEBOOK INC. FB US
GOOGLE ( ALPHABET INC ) GOOG US
# SHORT OIL !
As our readers know, we have been calling the END OF THE OIL ERA since 2008 as our world is quickly moving into the era of zero-marginal cost, non-polluting and endless energy.
Oil was the energy that fuel the 20th century and the American Kondratieff cycle in exactly the same way Coal was the energy source of the Industrial revolution of the 18th and 19th century and the British Empire era of dominance.
The rapid development of Solar, Wind and Hydrogen energies and the subsequent collapse in production cost is unleashing an era of eternal, non-polluting and renewable energies that will transform our planet fast and phase out the highly polluting and damaging fossil fuel processes.
Pollution has become a major concern, not only through Climate ch age abut also through Plastic pollution and we have already passed the stage where political pressure has tilted against oil and fossil fuels.
Over the past decade, oil prices have gyrated considerably despite the extremely stable increase in final demand.
For decades, and until now, final ol demand – consumption – have grown at an average rate of 1.5 % per annum – nothing to write home about – to reach a total of nearly 99 million barrel per day last year.
This stable and reasonable increase in demand was steadily met by rising production and continuing improvements in drilling technologies allowing major new oil fields to be discovered, such as Scotland in the early 2000’s , Brazil offshore fields and the Greenland offshore fields.
Interestingly enough, when looking at very long term charts, Oil prices have been contained between 8 and 40 US Dollars for decades after the 1974 and 1979 oil shocks.
In fact, it is OIL PRICES trading below 10 US$ between 1986 and 1989 that brought the USSR and communism down in 1989.
However, as can be seen very clearly in the above chart, Oil prices started shooting up in 2003 when the G.W. BUSH administration and Dick CHENEY – see the excellent feature movie “VICE ” – came to power and invaded Iraq.
Some Wall Street firms touted “THE END OF OIL” and predicted the end of Oil physical reserves to push oil prices higher in exactly the same way the Bush administration was touting the Weapons of Mass Destruction to justify the US invasion of Iraq.
Since 2000, besides te huge offshore discoveries off the costs of Scotland and South America, the development of the fracking technology made it possible to extract oil form almost every corner of the planet at much lower cost and much lower investment threshold than before.
The USA became one the world’s largest producer and evolved from being a net importer to becoming a net exporter of oil.
We called the fall in oil prices twice, once in 2008 and a second time in 2014 and we are calling it again today.
In November 2015, Saudi Arabia, Russia and OPEC agreed to cut oil supplies to push oil prices higher and a new up leg took oil prices back from US$ 25 to US$ 64 where they stand today.
Oil prices have been considerably manipulated over the past 15 years with almost no correlation with a final demand that has remained stable to anemic at best.
Since the beginning of the year Crude Oil has risen 37 % for no reason apart from speculation and politicians talking prices up in Saudi Arabia and Russia.
Saudi Arabia is currently going through tectonic changes as the Arab Kingdom realized that
1) it could no onger rely on Oil for its future economic development and
2) it could no longer confront the rest of the world through Radical Islam if it wanted to survive.
The entire dynamics of Islam are changing fast since the nomination of Mohamad Bin Salman as Crown Prince and the entire dynamics of the Middle East are changing fast as well since Donald Trump was elected President of the USA.
( Keep checking for our future post – THE END OF RADICAL ISLAM – )
Russia and Saudi Arabia needed strong oil prices and Saudi Arabia needed to boost it to get the flotation of ARAMCO out at the higher possible price. ARAMCO just came out last week with a massive US$ 12 Billion bond issue and published its consolidate figures for the first time in history.
However, times are changing fast and the whole Middle East scene may be experiencing tectonic changes very fast.
Electric Vehicles are about to experience a significant acceleration in their deployment right at the time where oil production has been reaching record highs everywhere, despite the disruptions of Venezuela.
China is reducing its strategic reserves purchases at a time where global oil consumption is bound to diminish under the combined assaults of wind and solar electricity production and the gradual but certain phasing out of fossil fuel powered Internal Combustion Engines.
For the first time in decades, 2019 could well be the year where global oil consumption DECLINES as global economies are slowing down.
In an amazing about-face, Saudi Arabia and Russia have announced today that they may be changing their oil strategy
Russia and OPEC may decide to boost production to fight for market share with the United States, TASS news agency сited Russia’s Finance Minister Anton Siluanov as saying on Saturday.
“There is a dilemma. What should we do with OPEC: should we lose the market, which is being occupied by the Americans, or quit the deal?” Anton Siluanov, speaking in Washington, said, TASS reported.
“(If the deal is abandoned) the oil prices will go down, then the new investments will shrink, American output will be lower, because the production cost for shale oil is higher than for traditional output.”
Siluanov said oil prices could drop to $40 per barrel or even less for up to one year.
The minister said there had been no decision on the deal yet and he did not know whether OPEC countries would be happy with this scenario.
OPEC, Russia and other producers, an alliance known as OPEC+, are reducing output by 1.2 million bpd from Jan. 1 for six months.
They meet on June 25-26 to decide whether to extend the pact.
The combined supply cuts have helped to drive a 32 percent rally in crude prices this year to nearly $72 a barrel, prompting U.S. President Donald Trump to call on OPEC to ease its market-supporting efforts. OPEC has said the curbs must remain, but there are signs that stance is now softening.
Earlier this week, sources familiar with the matter told Reuters that OPEC could raise oil output from July if Venezuelan and Iranian supply drops further and prices keep rallying, because extending production cuts with Russia and other allies could overtighten the market.
The extraordinary announcement made today by Russia’s oil minister is a test balloon for a change of tack where the strategic objectives of cutting out US supplies of shale become more important than the short term benefits of higher oil prices.
This will undoubtedly send oil prices sharply lower after the 61 % retracement of the 4th quarter fall
SHORT OIL at US$ 63
Prices could spike towards 68 in case of military tensions, but time has come to re-establish our strategic Oil Shorts.
The next target is US$ 40
# HOW WEAK IS THE SWISS ECONOMY
As our readers know, we have put a SHORT CHF recommendation last week as we see the Swiss currency as the most fragile in the coming US dollar rally.
The global US Dollar rally will be triggered by real interest rates differentials going sharply in favor of the US dollar in the coming months and weeks as inflation collapses.
We already had a sign of that last week as both measures of US inflation came in lower than anticipated by the market and real average hourly earnings came out much lower than expected.
But with the collapse in oil prices that we are expecting, this is only the beginning and lower US inflation with nominal rates at 2.5 % will make US real interest rates shoot up significantly, pushing the US dollar higher
However, it is really the sharply negative Swiss interest ratesthat will make the CHF depreciate more than other currencies.
A recent study from SOCIETE GENERALE puts the coming depreciation of the CHF against the EURO an dthe Japanese Yen at 6 % irrspective of their moves against the US Dollar.
The following charts of the RUR and the JPY show that the next phase should take the US dollar higher by 5 to 7 % against these currencies.
But it is really the CHF that has the worst configuration
and the economic data released last week does not bode well for the Swiss economy.
The Swiss manufacturing purchasing managers’ index (PMI) fell by almost 5 points in
March, to 50.3, slightly higher than the 50-point threshold that separates expansion in the manufacturing industry from contraction.
The PMI decline is a warning shot for the dynamic Swiss manufacturing sector, which has grown robustly in the past few years, and it testifies fo the devastating effects of Donald Trumps’ Trade wars on the global economy through a freezing of investments.
The 5.1-point decline in March is the sharpest since November 2008 (during the global financial crisis of 2008-09). At 50.3, the index is at its lowest level since December 2015, signalling an end to continued steady growth in the Swiss industrial sector.
This decrease is in line with that of the euro zone PMI, which was at 47.5 in March, its lowest level since April 2013, reflecting the weak economic growth outlook in the currency bloc.
The decline in PMI for Switzerland has been reflected across all the subcategories of the index. The order backlogs outturn is at its lowest level in almost three years, although it is still in expansionary territory.
Output expectations fell into contractionary territory for the first time since September 2015, and employment prospects were at their lowest levels since May
All is not negative though.
The KOF economic barometer-a leading indicator of economic growth that takes into account the whole economy, as opposed to PMI, which just surveys the manufacturing sector- rose in March .
However, the rise followed five straight months of a cumulative 10-point decline.
The index still remains in contractionary territory, reaffirming the PMI signal, which points towards an imminent slowdown in economic growth.
WHAT TO EXPECT NEXT WEEK
US Earnings Season
The focus is on the hotly anticipated U.S. results:
First-quarter earnings for S&P 500 companies are expected to fall 2.5 percent on the year in what would be the first quarterly decline since 2016. But revenue is expected to rise 4.8 percent.
Those earnings will be crucial to see if the bull market can keep running. Some have argued the Federal Reserve’s patience on rate increases this year as well as stock buybacks will add fuel to the S&P’s rally.
Also boosting the S&P 500 Index are the recent performance of the banks and financials, which had suffered more than the broader market in the fourth quarter, when recession fears scared investors away.
JPMorgan already reported a better-than-expected quarterly profit as higher interest income and gains in its advisory and debt underwriting business offset weakness in trading.
Bank of America, Bank of New York Mellon, Goldman Sachs and Morgan Stanley are all scheduled to release their results next week.
Large banks have indicated that muted capital market activity at the start of the year caused by sluggish trading volumes will be a drag on overall results. Financials are expected to deliver 1.8 percent earnings growth, according to I/B/E/S.
Share performance may boil down to valuation. Watch tech stocks carefully. If their result disappoint, as we expect, they are in for a rough ride.
Weak World Economy – Save for China
April manufacturing activity data will give a glimpse of the economic health of the United States and the euro zone.
Chinese GDP data will provide an update on the health of the world’s second-largest economy. China’s first-quarter GDP data is out on April 17.
Dismal March PMIs for the United States and euro zone sent shivers through markets. They were taken as ominous signs for the global economy as international trade tensions hurt factory output.
But robust factory data from Beijing offered hope that efforts to shore up China’s economy are kicking in, which injected further fuel to the global equity rally.
The IHS Markit flash Purchasing Managers’ Index due on April 18 should indicate if that optimism was justified — and if stocks have further upward momentum.
Many investors say low expectations for first-quarter earnings, dovish central bank policies and hopes for Chinese stimulus and a trade truce between Washington and Beijing are largely priced into equity markets.
U.S. Treasury Secretary Steven Mnuchin said on Saturday a U.S.-China trade agreement would go “way beyond” previous efforts to open China’s markets to U.S. companies and hoped that the two sides were “close to the final round” of negotiations.
Emerging Markets Crises ?
For all the relief that the Federal Reserve doesn’t expect to raise interest rates anytime soon and that commodity prices are hot again, there are still troublesome signs in Emerging Markets.
The Argentinian peso has slumped to fresh lows in the past 10 days despite the International Monetary Fund’s unlocking a $10.8 billion tranche of funds.
Meanwhile, nine weeks of losses in the last 10 have the Turkish lira sliding back toward six to the dollar, the level that set alarm bells ringing last year.
Ankara’s economic reform plans — announced on Wednesday — failed to impress markets and investor meetings with Finance Minister Berat Albayrak at the IMF and World Bank spring meetings did little to change that. Ankara’s row with Washington over plans to buy a Russian missile defense system and declines in its FX reserves have only added to the concern of investors still smarting from last month’s pre-election move to temporarily freeze the London lira market.
Next week will show if there are any contagion effects in other emerging market economies
The world’s largest and third-largest democracies are going to the polls. Indonesia holds parliamentary and presidential elections on April 17. India’s elections are spread over seven phases and 39 days.
Both countries face similar issues around anti-incumbency and flailing economic growth. Betting on continuity, investors have pumped money into their markets, driving up bonds and stocks.
Polls in Indonesia suggest President Joko Widodo, or Jokowi, who faces his opponent from 2014 once again, will not only win re-election but will also emerge with a stronger coalition. Indonesian markets have also always scored well in election years.
So it’s India that investors should be sweating over.
Even if the February tensions with neighbor Pakistan have given Prime Minister Narendra Modi and his coalition an edge, the risks are that he will lose his majority and may cobble together a new partnership that could slow down reforms.
It’s the start truncated trading – the first of four consecutive shortened trading weeks, as a series of public holidays in Europe begins with Easter. Japanese markets will also be closed for a string of holidays in late April.
The truncated weeks come just as volatility in financial markets has slumped, and we do not like that
In equities, the VIX, known as the “fear index”, is close to its lowest levels since October. Foreign exchange price swings have fallen to their lowest for several years, according to the Deutsche Bank Currency Volatility Index.
Even the British pound, long the vent for Brexit-related angst, has turned increasingly calm — and traders are not expecting many big moves for sterling in the months ahead after this week’s six-month Brexit delay.
Caught between mixed economic data releases of recent weeks, a postponement to figuring out how Britain will extricate itself from the European Union until as late as October and elusive progress in the Sino-U.S. trade war have left markets treading water.
But with fewer traders at their desks on fewer days, the rest of April will see heightened risks of a spike in volatility, or even flash crashes, should a surprise hit markets just as calmness descends.