Jeff’s Weekly Stock Market Commentary: Overall Declining Economy?
The Federal Reserve’s failure to raise interest rates at its last meeting has resulted in the credit market projecting that the next interest rate hike won’t occur until December of 2017.
By failing to raise rates, the stock market responded as if the Fed has cut rates. In other words, when the Fed reversed course AND signaled easing in their ‘dot plot’ changes it had the same impact of a country de-valuing its currency. The US stock market took off and has rallied to back within a few percent of its all-time high. Commodity-related stocks have led the way. That has negatively impacted the investments we have that are short the S&P 500, the Russell 2000, financials and junk bonds.
The US Treasury bond positions have generally held up well. So the main question we have to answer is whether this recent rally is a new trend that will last several weeks/months longer or is it a temporary counter-trend in an overall declining economy?
The research that I do on a daily basis (both economic and quantitative) continues to support the view that the economy continues to slow. China’s troubles are escalating. The dovish US Fed is causing pain in Europe and Japan and threatens to drive their economies into recession. And growth here in the US continues to disappoint.
Normally, central bank actions unfold over a longer period of time. They move slowly and do everything they can to telegraph their actions so as not to upset the markets and give the market participants the time to adjust. In December they announced that they would raise interest rates and embark on a path (per the Dot Plot) of continuing to raise rates 25 basis points for the next several meetings. If you remember, that caused the US stock market to drop 12-14% in January and the first half of February.
Then The Fed Blinked and Capitulated
That’s why it was such a surprise when at the next meeting the Fed drastically did a U-turn. Not only did they not raise rates, they completely reversed course and signaled in their Dot Plot that there wouldn’t be ANY rate increases for an extended period of time. That statement is akin to driving on the interstate at 70 mph and suddenly throwing the vehicle into reverse! The result was the stock market took off and rallied back up near the all-time highs of last July.
Here’s the problem, though. The stock market has already rallied based on the Fed easing. And since the market has already factored in a dovish Fed, what is going to cause the markets to go higher from here? Earnings season has already begun and it is expected that this could be the third time that companies will show negative quarterly sales and profits. Some are speculating that the US economy may already be in recession. Besides, has anyone realized that there was a reason why the Fed reversed course so quickly?
They have been telling us for over a year that everything is fine—strong economy! Most of us knew that wasn’t the case; and the data coming out since then has made it harder for them to continue the charade without losing what is left of their credibility.
That’s why I haven’t significantly changed the way my clients are invested. I continue to own US Treasury bonds and am short the general market indexes. The markets may rally for a few more weeks but it is hard to overcome economic gravity forever.
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