Remembrance of Things Past


“The true paradises are the paradises that we have lost.” – Marcel Proust, A la recherche du temps perdu

Was it really that long ago? The news this week has been filled with remembrances of President John F. Kennedy, cut down fifty years ago today. One of the favorite themes is “where were you then,” if you happened to have arrived on the planet before that day. I was in second grade when a nun came into our classroom and announced that President Kennedy had been shot; she returned shortly afterwards to tell us he was dead.

This drama came five months after a different nun had come in to announce that Pope John XXIII had died. Both men had been exciting figures of great charm, and while I myself did not see the nuns weeping on either occasion, as many others did, they were so ashen-faced that we couldn’t mistake the gravity of the events. Newspaper boys went around door-to-door on that fateful Thursday evening in November, selling “extra” editions. It was an unsettling year – the previous fall I had grown accustomed to daily air-raid drills from the Cuban missile crisis, and would practice my duck-and-cover on the way home. Definitely a strange time.

We are in a rather unusual time again. An asset bubble is well along for the third time in twelve years, with prices increasing in tandem with the volume of denials that any such thing is happening. It’s an eerie feeling to be reliving the same movie all over again, with most of the participants simply shrugging it off, or smiling and shaking their heads in amused denial; indeed it reminds me of another 1960s icon, the hit television series, “The Twilight Zone.”

On Monday I sent out my usual video review, this time including the assertion that the market should begin to pull back in the week just ended. Later that afternoon Carl Icahn caused a bit of selling when he said he thought stocks were pricey, and then the usual failed first attempt at a round number (1800 on the S&P) chipped in to lead prices gently lower for three days in a row – such a losing streak! It had been two months since such a calamitous event; the market falling a grand total of one percent.

But it’s a sentiment-driven market, and bullish sentiment is definitely intact. Dip-buyers rushed in to buy on Thursday, despite a decline in China’s PMI, rejoicing in a Philadelphia Fed survey that was much weaker than expected at 6.5. The previous month had been a lofty 19.8, and the expectations were for something around double the actual result, so the all-important taper was off the table for the rest of the year – or so the story went. It was clear by 10:30 or so that 16,000 on the Dow was ripe for the taking.

Then billionaire hedge-fund manager David Tepper came out and confessed that his main fear was not being long enough. If I had the footage available, I would show the clips of market impresario Jim Cramer’s reaction upon being asked if he thought Icahn was right (scowl, then “Nah!”), then if Tepper was right (beaming, then “he’s a really great guy and you have to listen to him!”). I like Cramer, even if the act on his show is too over the top for me to watch it much. A dyed-in-the-wool momentum trader, he’s a great weathervane for telling you which way the wind is blowing now; next week may be another story.

He’s a good sentiment indicator for me, though, one that signals what’s happening on trading desks and in hedge fund offices, as opposed to the more democratic indicators like consumer confidence or the AAII (American Association of Individual Investors) investor sentiment index. In general, when he’s ebullient, I start to get worried, and when he’s anxious and fearful, I start to study my shopping list. Our man Jim hangs around much bigger money than the AAII, though, money that doesn’t flip quite so fast, so there’s more of a time lag between his moods and market turns. Right now he’s deep into buy-every-dip mode.

So it would seem that sentiment is indeed comfortably entrenched in this sentiment-driven market. We worked off the last short-term overbought state of the market with a couple of weeks of sideways trading, and we could do it again before the year is up. If Monday and/or Tuesday are up again, then the market will be super-overbought and Cramer’s prediction of a potential Wednesday sell-off could come true – he was blaming the possibility of a good durable goods number, but frankly any number could do, either weak (economy not recovering) or strong (beware the taper!). I trust you are not surprised when I report that he would have you buy such a dip.

The market is in a semi-delirious state right now. The best argument against the S&P rising another 100 points into year-end is that so much of the investing world seems to think that a melt-up into the end of the year for American stocks is simply inevitable. The argument for it is the amount of money pouring into this year’s sure thing. The near-parabolic nature of the weekly advance does leave the market vulnerable to a surprise, for example a strong jobs report (advances the taper), the budget process seems to blow up in December, or next weekend’s sales are below par. In all cases, though, they could just end up being excuses to take some profits before re-loading.

We need a minimum 15% correction or about six months of sideways trading to get the market out of its overvalued state. It’s currently a little more than 20% above the long-term trend line that runs from the 2008 crash, and that has been the drag line up until now. There are other technical indicators that suggest a breather, and pension funds will be ready to sell at any weakness as they rebalance. All of that said, I don’t know if traders can resist making a run at 30%-up on the S&P, or at least the 1900 level, by year-end.

The coincident relationship between the economy, as measured by GDP, and the stock market is tenuous most of the time; in the long run the market tracks the economy, but in the short run the main driver of prices has always been what people think the market is about to do. As valuations run to extremes, the herd will gather usually around one talisman and invest it with magical powers – global growth, dot.com, or as Cramer jubilantly crowed on Friday, “don’t fight the Fed.” The magic works until it doesn’t.

It doesn’t cheer me at all to see the market setting up for another massive fall – 1100 on the S&P comes to mind, even a sniff below 1000 (yes, really). Almost everyone always thinks that they will know when to get out, and almost everyone always gets it wrong. For much of the year I thought October might see the top for 2013, but that was before the Fed got cold feet in September; now I don’t think we’re done going higher yet. Happy Thanksgiving to all of Avalon’s American readers.

The Economic Beat

The report of the week was probably retail sales for October, lavishly, wrongly praised as portending a new acceleration in spending. Well, something has to explain why stocks are going up.

The year-on-year annual growth rate in 12-month retail sales slipped from 4.3% in September to 4.2% in October, despite the 0.4% monthly increase in the advance estimate. The year-to-date rate was the same at +4.2%, well below 2012’s growth rate. The strength was belied also by flat or disappointing guidance from retailers such as Wal-Mart (WMT), Kohl’s (KSS), Target (TGT), TJ Maxx (TJX) and Ross Stores (ROSS). Perhaps Whole Foods (WFM) will rescue the outlook and drown out all the naughty stuff.

The moving three-month average for unadjusted retail sales fell (-0.58%); in October 2012, it rose +0.34%, nearly a full percentage point better. It seems a rather straightforward inference that the government shutdown (and lack of paychecks) held September sales down, with the back pay collected in October boosting that month. Some workers, depending on the state, would also have had the ability to collect some unemployment benefits during the shutdown, providing an extra income boost. When you average the two months – as no one on the Street seemed interested in doing – there is nothing special at all.

The JOLTS labor turnover survey said that there was little change from August to September, but the year-on-year improvements do look better. That said, the various rates have been in a very tight range during calendar 2013, suggesting that the year-year comparison may be benefiting from the Great Caution in the fourth quarter of 2012. The job openings rate did reach a calendar-year high at 3.4%, seasonally adjusted; if the number stands up, it would be the fourth time it’s reached that level since 2009. The rates also remain below the 2003-2008 experience, and well below 2004-2007.

The four-week unadjusted moving average in weekly claims moved up again last week, despite the drop in the weekly number, as the previous week’s number got a hefty revision upward. The Labor Department admitted that the latest result might be off from the Veteran’s Day holiday – we may be struggling with special factors the rest of the year.

That said, the raw claims data don’t suggest anything unusual is going on beyond the usual end-of-year lift in layoffs, and the numbers are still better than a year ago, so my guess is that the Bureau of Labor Statistics (BLS) will extract a November number similar to October for their estimate in two week’s time. I pointed out two weeks ago the disparity between the Commerce Department’s sales data for eating and drinking and the BLS-estimated job growth for the sector, with the latter running well ahead of the former in these cost-cutting times.

Possible explanations include more people working more than one job in the sector (each job gets counted separately as an employed person); weaknesses in the birth-and-death model (responsible for 60% of October’s estimate), or possibly over-fitting this year’s estimates to last year’s pattern. Maybe it’s all of the above.

Recent inventory data suggest two things – an upward revision to third quarter GDP, and downward pressure on fourth quarter GDP as inventories are run down. However, the Markit Economics “flash” PMI estimate for November came in with a decent print of 54.3, beating expectations for something around 53. It’s better than a poke in the eye with a sharp stick, as the old Street saying goes, but is likely to be in large part a rebound from October’s 12-month low. The chart of the last twelve months looks a lot like a dampening wave pattern.

There was a lot of buzz around the latest inflation data, though close attention to the previous weeks’ release of price indices for imports and exports (both negative over the past year) would have tipped you off to the impending weakness. The consumer price index (CPI) showed a monthly decline of (-0.1%), the first since April, and the twelve-month rate fell to 1%, the lowest since November 2010. The Producer Price Index (PPI) was in a similar vein, with a (-0.2%) drop to a 0.3% annual rate.

The “core” increases – excluding food and energy – for the last twelve months were higher: 1.4% for the PPI and 1.7% for the CPI. The core concept was invented back in the days of double-digit inflation, in order to provide some good news for consumers, and ever since that time the criticism has been that the numbers understate the pressure on the consumer dollar, even if they do represent a way of looking at how petroleum-based pressure is (or isn’t) affecting other prices. In a similar way, the current falling data may somewhat understate deflationary pressures – core CPI is at its lowest since July 2011, when it was rebounding from the crash. It’s now headed the other way.

I don’t want to torture this set of data too much, but it does support the notion of being in a liquidity trap – despite the record money supply, the velocity (rate of transaction turnover) of money does continue to make new post-war lows; that does not support the idea of an economy moving higher, or on the cusp of it. Every valley has a bottom, but the trend is worrisome.

The week began with some housing data – the homebuilder index was flat at 54 (50 is neutral) after October’s original 55 was revised down. The difference is trivial, so I would expect the pace of housing starts – delayed until Tuesday by the shutdown – to be about the same as the previous month. Existing home sales came up a bit short, though double-digit price increases continue. Housing affordability relative to income is rapidly decreasing, which could keep a damper on the sector. Pending home sales, which last month correctly anticipated the decline in existing sales, are due out on Monday.

The Dallas Fed will report its survey results on Monday; the recent lift in oil prices may help. The Kansas City survey was essentially unchanged last week at a modest 7, and the private Chicago purchasing manager’s group reports its influential survey on Wednesday. Also in the Tuesday-Wednesday pre-Thanksgiving burst are new orders for durable goods on Wednesday, perhaps the highlight of the week, along with consumer sentiment, leading indicators, jobless claims and another Chicago Fed activity index. Consumer confidence and Case-Shiller home prices precede them on Tuesday, and of course the American markets are closed Thursday for Thanksgiving, and close early (1PM) on Friday.

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