“Being Irish, he had an abiding sense of tragedy, which sustained him through temporary periods of joy.” – W.B. Yeats
Are you kidding me? Even though I myself said last week that the rebound rally could well push higher for another week, I can’t help but smiling in amazement at times, not just at the willy-nilly action in the stock market, an enduring part of auction markets, but at all of the blarney and baloney that goes with it. The tape makes the news, goes the old saying, and this year has been no exception.
The greatest recession fear in January and February came not from any sudden change in economic data, but from the stock market itself. If it’s falling, then we must be fearing a recession. Now mutual fund managers are rushing forward to tell you (especially with tax filing season underway, vital to get those retirement contributions in the barn) that all of the recession fears were a mistake. All you have to do is look at the stock market, which is a wonderful leading indicator, the best we know. Okay, maybe not so much in January and February, but that was just a growth scare. China’s fault, you know. And maybe stock prices weren’t so predictive at the end of the last cycle either, when they made their then all-time high six weeks before the biggest recession in seventy years began, but you know what they say, the exception proves the rule.
The main motivation for the rally has been the price of oil. While most traders would tell you that the correlation between equities and the price of oil has gone too far and doesn’t really make enough sense, they also know better than to make short-term trades against any market’s universal belief. The latter will work until it doesn’t, and while there is very good money to be made trying to get a little ahead of the turning points in beliefs about false gods, one is apt to be skinned alive and roasted at the stake by trying to get ahead of it too far and too early.
Looking at the other prime factors behind the market’s rise, start with its oversold state in mid-February. Being oversold or overbought isn’t enough to guarantee a market reversal, but it does make conditions so ripe that a truly compelling narrative is needed to sustain moves further into extreme territory. A very important and little-talked about event happened in the middle of last month, and that was the bounce of the S&P 500 off of its long-term cyclical trend that dates back to the beginning of the recovery bull market that began in March 2009.
Similar bounces occur near the end of just about every bull market. Sometimes we get one bounce off the major trend, sometimes we get two, and only the gods know in advance whether a given test will hold or not. The February bounce was odd-on, given that the flow of economic news was merely weak and not blatantly obvious proof of recession. All it took was a tepid retail sales report that beat expectations (kind of, sort of, until it got revised) with a positive revision to get the markets to follow the price of oil, which was also rallying on the fumes of hopes that producers would agree to cut supply. It’s a rumor that is still going around, though no one has actually done much about it apart from some rigs going idle in the U.S. As an aside, I would say to beware of what appears to be very much a bear-market rally in oil. Absent genuine, certifiable production cuts, it isn’t likely to last, though my instincts tell me it’s dangerous to take a position either way at this point.
The Wall Street Journal talked of “solid, if not spectacular” growth, but the truth is that the evidence solidly points to the end of the business cycle. A look at twelve-month trends in just about everything but weekly claims – yes, even jobs reports, where the growth rate has slowed too – suggest the expansion has several wounds and is near death. Claims will likely be the last to go in this cycle, but that’s a subject for another column.
So oil bounces, we get a chart bounce that turns into a technical trade higher and it’s springtime, when even bear markets rally. Suddenly the economy is better again, though the Fed downgraded its own forecast for the U.S. this year and acknowledged growing weakness abroad. If the economy weren’t better, then stock prices wouldn’t move higher, would they?
Right now equities are overbought and ready for a pause and some profit-taking. I look for volatility to pick up again, though it would be atypical for prices to pull back dramatically as we enter the earnings season in a few weeks. I’ll repeat my earlier advice that I myself took last week – use any strength to keep lightening up. Though I’m not expecting disaster over the next month, it bears repeating that it’s still a market that could come apart at any time.
The Economic Beat
Though the Fed’s statement and duck for cover was the media event of the week and February retail sales the most important release, the most intriguing news may have been over in the manufacturing area.
It looks as if manufacturing is at least pausing to take a breath from its extended decline, judging by the two most influential regional Fed surveys, New York and Philadelphia. Both posted their first positive index readings in seven months. New York was up just a whisker, +0.6, which is not significantly different from zero (no change) and so only suggests that activity didn’t continue to decline, but that was still something. Philadelphia, which had been just negative last month (-2.8) rose smartly to 12.4, significantly better. Both regions also had strong improvements in new orders.
Beyond the usual caveat that these are only diffusion reports and not actual measures of output is the more sobering reality that only about a third of firms were reporting improvements from the previous month, with the rest reporting either no change or a decline. In New York, only a quarter of respondents said they saw better conditions overall, so it may be premature to say the bleeding is over, but a pause certainly helps. The warm spring (February 2016 is apparently the warmest one ever) might be helping.
The main index of industrial activity, the Fed’s monthly industrial report, had less sanguine news about the previous month. The level of overall industrial activity is estimated to have declined by 0.5 in February, leaving the year-on-year rate at (-1.0%). Manufacturing did post its second straight monthly gain, 0.2%, and that’s saying something. At first estimate, the year-year manufacturing result is +1.8%, not exactly a barn-burner but not negative either. The overall index is being heavily dragged down by the twelve-month declines in utilities (-9.3) and mining (which includes oil drilling) at (-9.9). It’s only fair to say that oil drilling had been responsible for most of the gains in manufacturing and overall activity, so the sector gave and then took away. The only sector with above-trend results is construction, up about 2.8% over the last year, with the remaining areas running in a weak range of (-2.6%) for materials to the 1.8% for manufacturing. Still, the regional surveys do suggest something of a bounce in March.
Over in retail sales, the overly vaunted January result of +0.2% (it beat expectations!) with its upward revision to December fell victim itself to revisions this time. The new January number fell all the way to (-0.4%), depressing optimists, but a lot of that was just a timing shift with the purchases going into December instead. The year-year increase for December has gone up to a more respectable 3.6%, not as good as a year ago (4.76%) but better than 2013-2014 and closer to the 4.1% average over the last 22 years. Fourth quarter sales still have a weak year-year growth rate of 2.4% (not adjusted), the lowest since 2009, and perhaps another indication of why it’s best to look at sample sizes of greater than one month in retail sales. February 2016 benefited from an extra day of sales, driving the year-year comparison up to 6.2%, but that is actually below average for a leap-year February, which often sports gains in double-digit territory (e.g., 2012 was +10.4%). The seasonally adjusted year-year gain was estimated at 3.1%.
The best news is that the trailing-twelve-month (TTM) rate, which had slipped to 1.99% in January (unadjusted), is now back up to 2% in January and 2.35% in February, though the latter number is skewed by the extra day of sales, as indeed will be the entire first quarter. Easter also comes early this year, being the last weekend in March, and that could help push the TTM rate back up for two consecutive months, which may not sound like a lot until you consider that it had fallen for the previous eleven months in a row. Alas, what Easter gives it also takes away, and April comparisons will suffer as a result. March is off to a slow start so far, according to weekly chain store reports.
The warm February seems to have been a big plus for housing. While the homebuilder sentiment index was unchanged at a still-strong 58, starts rose to a seasonally adjusted and annualized 1.178mm rate. January was up only slightly from a year ago, but February posted huge gains, leaving the year so far at 20% higher the first two months. Permits fell, however, so future gains appear to be more limited.
The labor market had mixed reviews. Weekly claims soldier on at low levels, but the labor turnover data (JOLTS) report showed that hires were down in January from the year-earlier month, though openings continued to rise. Perhaps the weather will benefit the February data too, though to me it all looks to be part of the same plateau employment has been on since last August. Historically, such plateaus have had a median duration of about a year.
Inflation data was mixed. Headline producer price inflation is 0% over the last year, with consumer prices up 1%. However, the latter is up 2.3% over the last year when excluding food and energy, and producer prices up 1.2% when excluding them.
Next week is a mix of housing and output on the economic front, with existing-home sales on Monday and new-home sales Wednesday. February durable goods are on Thursday and the last scheduled update for fourth-quarter 2015 GDP is on Friday, when the markets are closed in honor of Good Friday.