“When proud-pied April, dressed in all his trim, hath put a spirit of youth in everything” – William Shakespeare, Sonnets (98)
Last Wednesday’s rally was one of those typical episodes you get when the trading black boxes are set to “buy” mode. The alchemy of a positive calendar (April is historically the best month for stocks), a useful chart target (closing the gap to the 2080-2085 area on the S&P 500), a helpful short squeeze with a tempting options target (on Wednesday, it looked like 2080 would be the most profitable close to the week for options sellers) meant that a little headline could go a long way, with overseas markets rallying overnight in response to rising US markets, leading US markets to open higher the next morning and so on.
The two headlines last week were first, the Doha rumor, and second. the JP Morgan (JPM) earnings report. Doha was where the oil-producing nations were supposed to get together last weekend and do something about overproduction, and the rumor that they might do just that caused a sharp rally in oil and so equities – and I still find it hard to believe I am writing such sentences. Late Sunday came the not-so-unexpected news that the Doha meeting was a bust, so expect some heavy weather in the oil markets this week. Whether that will bring down equities to the same extent seems doubtful to me, at least for this week. Oil weakness certainly doesn’t help matters, but earnings and seasonal factors may sever the already-weakening link for at least a time.
As for JP Morgan, revenues were down from the year-ago quarter in the low single digits and earnings down in the high single digits, but (drum roll), the report beat expectations (trumpet blare) and did so handily, with another bravura conference call performance by CEO Jamie Dimon (if you read the transcript, it won’t look so great, but it’s all relative). All of the big banks reported lower earnings, but most of them beat expectations and that theme was enough for now. It should be the same through the rest of this earnings season, as about two-thirds of companies usually beat expectations. Sectors like financial are rallying from weak starts to the year, so their rebounds should be taken with a grain of salt.
April is April and earnings season is earnings season. Despite the Doha disappointment, I wouldn’t look for much more than a brief corrective move before stocks resume their upward bias. How much the bias can translate into price gains is difficult to predict, especially against a backdrop of earnings that while beating expectations are going to be down overall. Yet not for every sector: Excluding energy, earnings are expected to be roughly flat in practice, given the projected 4% decline. Companies that are largely US-based with little exposure to the dollar or oil are expected to show a small gain.
The beat rate and moderate success outside of certain sectors (e.g. financials, materials, energy, multi-nationals) should help prop up prices for another week or two – and don’t forget the potential of some glamour-stock beats, like Facebook (FB) or Netflix (NFLX). I make no predictions for these companies or their ilk, but high-profile beats by high-profile stocks are always good for the broad tape and corporate management certainly works diligently to guide analysts to expectations that they can exceed.
All of that said, a down quarter overall is not a good base for stock price appreciation. Nor is a zero-excluding-energy quarter, nor a quarter in which financials are struggling with declining growth, even if their stock prices enjoy a respite from declines. Valuations remain generally elevated, offering little downside protection. The lure of a new high or at least equaling the previous one set back in the spring of 2015 cannot be discounted, though, as a similar process obtained in the spring of 2007, despite similar economic headwinds. That year traders chased the lure of lower rates and pooh-poohed any notion of a recession until well into 2008, long after one had become firmly established.
It will be difficult to chase lower interest rates this year, but the admittedly weaker notion of postponing rate increases may yet offer some stock market excitement, so long as the rest of the news isn’t glaringly awful. The possibility of the latter can’t be excluded, certainly not with the “Brexit” (British exit from the EU) looming and yet another rerun of the Greek debt tragedy. Yet those are still only possibilities that offer relief-rally potential as well. A manufacturing bounce, however temporary, could also provide additional stuff that dreams are made of.
The business cycle is clearly ending, as I have frequently written, but it never ends all at once and always ends in a climate of denial, offering “pain-trade” gains against shorts getting in early and the opportunity for self-promoting boasts of resiliency. Remember the words of the legendary Baron Rothschild, who observed that he got rich by always selling early. You certainly won’t get rich by chasing fading embers.
The Economic Beat
The report of the week was probably JP Morgan’s earnings report. Though revenue was down 3% year-on-year and earnings were down 6.5%, the stock market loved it because it beat expectations. You gotta love April.
People were talking about JP Morgan in glowing tones the rest of the week, but not so much the March reports for retail sales and industrial production. That stands to reason – they weren’t good, so why talk about them?
The initial estimate for March retail sales was a decline of 0.3%, seasonally adjusted (SA), where a gain of 0.1% had been expected. For all that, the trailing-twelve-month (TTM) rate rose to 2.5%, thanks to the extra day in February and the inclusion of two Easters in the period (April 2015 and March 2016). The Atlanta Fed also bumped up its GDP forecast to 0.3% for the quarter by increasing its PCE spending estimate from 1.6% to 1.8% for the quarter. Auto sales have been on a steady, albeit gradual slide, and it may be that the cyclical peak for the sector has come and gone, as many already suspect.
Industrial production fell a surprising 0.6%, also dragged down in part by autos. It missed consensus for a 0.1% loss, as did manufacturing, which turned in a 0.3% decline instead of a 0.1% expected gain. The year-on-year comparison fell to (-2.2%) for industrial production and only 0.4% for manufacturing. This is recessionary territory, certainly, but the March manufacturing surveys all suggest that April should see some improvement. The mining and utility categories are sporting very large year-on-year declines, thanks to the bleeding in the petroleum sector and the unfavorable weather comparison. The latter comparison should get better in April, but the strong spring rebounds from last year’s severe winter will pose their own comparison issues. At any rate, the decline has been steady, as seen in the chart below:
The markets were on the schizophrenic side about the industrial report. It certainly didn’t go unnoticed, but neither did all of the manufacturing surveys suggesting April should be better, including the New York Fed’s upbeat report on Friday. The latter had an overall reading of 9.56 (0 is neutral), the best it’s been in over a year. It was good across the board, showing strength in new orders, prices, etc., and so the general reaction to industrial production was, in short, to shift uncomfortably in the chair and hope for better next month. It’s all part of the April effect.
The rest of the week’s domestic releases were largely about pricing. Import-export prices leveled off for the first time in ages, thanks to an increase in the price of petroleum, but remain down by mid-single digits on a year-on-year basis. Producer prices edged down by 0.1% on the month and stand at 0.9% year-on-year, while consumer prices rose (barely) to a 0.9% year-on-year rate, 2.2% excluding food and energy. Chinese data was somewhat encouraging in that it didn’t show anything unexpected, with exports better than expected. How anyone can still take Chinese government reports – especially GDP and export data – at face value is beyond me.
Next week is about earnings, which get into full swing. On the economic news front it’s mostly housing, with the homebuilder sentiment index on Monday followed by housing starts on Tuesday and existing home sales on Wednesday. The housing market has been quietly stable in recent months, and while there is typically monthly noise there isn’t any reason to expect news of any real sea change. The Philadelphia Fed survey on Thursday will provide another good indication to the expected April manufacturing rebound.