Sweet Dreams


“Whenever I want you, all I have to do is dream, dream, dream.” – The Everly Brothers, All I Have to Do is Dream

Promises of major tax cuts are the same as the promises made four months ago and eight months ago, so why did they seem to gain in value last week when Trump repeated them anew? After all, the promises are no different and still vague, yet already responsible for an outsized year-end rally in stocks.

One answer is that the market has always loved the dream of what may come more than the reality – or to cite the old market maxim, “buy the rumor, sell the news.” It’s perhaps unrealistic to expect traders to want to sell on such promising visions, though they really are a mirage. Tax cuts take time to work their way through into the economy, and neither the Reagan nor the Bush tax cuts were able to stave off recessions. They were able, however, to set up some nice short-term trading gains that vanished shortly afterwards.

Ditto with infrastructure spending, which has sent certain building-related stocks soaring long before anyone has any idea of what projects may get underway. I can’t predict which ones will end up getting done, but I can predict this – they will come far too late to have any chance of staving off the end of the current business cycle.

Many bulls and strategists repeated the mantra last year that the end of the bull market couldn’t be at hand, citing the hoary dictum that bull markets are born in despair and die in euphoria – and there was no sense of euphoria, given that stock prices had moved sideways for two years. One might argue a certain amount of euphoria was in the lofty valuations and the usual certainty that all would work out in the end, but it ought to be allowed that trading wasn’t giddy. Until the Trump rally, anyway, and now it is very giddy indeed. The market is overbought on both a short-term and intermediate term basis (long term you don’t want to know about), so I would expect some sort of pullback in the latter half of February.

Absent a major policy blunder, though – and one certainly can’t be ruled out – it’s hard to see the market doing much more than giving back a few percent. The spring rally is a sacred ritual on Wall Street, even in recession years, so while we might give back a lot of Trump rally gains sometime in February and/or March, we’ll probably recover most of them again in April-May. it’s just what the stock market does. After that, look out below.

As of yet, no tax plan has been officially put forth by the administration, though the House Republicans do have an official plan. It’s unlikely to be the one that gets passed, and for good reason, as it’s one thing to put together a policy platform that allows you to promise a little something for everyone, and another to enact changes into law. A lot of the proposals in the House will look bad in the press if they get put into a bill, particularly as so many are tilted to big business and the wealthy. The question of how they get paid for is likely to come up as well, and that issue is going to dog the GOP, a party which has functioned more effectively in opposition than in governance in the last quarter-century (the Democrats have been largely the opposite).

In trying to think of a positive note to close this segment, let me wish everyone a Happy Valentine’s Day. Yes, it can be more than a little overrated and isn’t much of an investment theme (though it can be a vital investment in one’s own peace of mind), but look at is this way – its relative value seems to remain constant through the years, which is a lot more than be said for stocks right now.

The Economic Beat

It was a quiet week of mostly benign news. The Fed’s Labor Market Conditions Index, generally ignored, started things off with a decent report showing an upward revision to December, from (-0.3) to +0.6, and a positive January read at 1.3 (0=neutral). The index was negative for a long run during 2015-2016; perhaps if it keeps showing positive numbers the market will start to talk it up more.

The labor turnover report (JOLTS) for December, however, continued the same pattern it has been in for some months now: openings are up, but hires are down and so are separations. The JOLTS series only dates to the end of 2000, so cyclical analysis is necessarily incomplete, but the series has not shown three consecutive months of year-on-year hiring declines since 2009. A similar pattern preceded the beginning of the last recession by about six months.

The weekly claims report continues to show very low levels of claims, and the JOLTS report shows separations are down as well. It looks to me like the calm before the end, but the stock market isn’t likely to react to anything but a surge in claims or a drop in the jobs report, with the latter likely to occur first.

The December wholesale sales report appeared to bring some welcome news with a big year-on-year surge in sales of 6.8%. It was the fifth month in a row of year-year gains (though the first two were miniscule), and December doubled November’s rate, but there was a big catch: the gains were almost entirely in petroleum, a function of (higher) price. The inventory-to-sales ratio did fall to 1.29 (unadjusted) from 1.3 a year ago, but that ratio is still quite high for December. Any talk of business booming based on the wholesale report is misguided.

Petroleum price fluctuations also distorted the monthly import-export report. Although import prices have been trending upward again, with a 3.7% y/y gain in January, there is no gain in non-fuel prices. On the export side, non-agricultural prices are up 0.8% over the last year.

Next week begins slowly, then shifts into gear Wednesday with the January retail sales report. Consensus is for a gain of 0.1% with expected strength in non-auto sales, though that runs contrary to the weekly Redbook reports. It will be accompanied by the consumer price index report (CPI, with the producer report the day before) and the New York Fed’s manufacturing survey. Later that morning we’ll get the homebuilder sentiment report.

Thursday follows up the New York Fed report with the older and more influential Philadelphia report, and January housing starts following up the homebuilder sentiment issue.

The main action could be Fed chair Janet Yellen’s congressional testimony on Tuesday and Wednesday, but the market doesn’t seem very dialed in on it this time around, with all those dreams of sugar tax fairies running through its head.

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