Suddenly, Things are Just Swell!

By: Michael Ashton | Tue, Nov 3, 2015
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Over the last month, stocks have absolutely blasted off with one of the most powerful moves in years. More precisely, in this century the only months with bigger gains in the S&P than last month's 8.3% were March 2000, October 2002, March 2009, April 2009, September 2010 and October 2011.

There is no 'because' - as far as I can tell, there is little coherent reasoning behind the rally. Economic data has been generally weak; there have been positive signs too but the bad signs have been getting worse faster than economists have been expecting. Nothing is collapsing, but we are talking about a market that is overvalued on most major metrics. "The economy is not collapsing" is not a strong argument for why we've added 10% since the beginning of October.

One fascinating argument I have heard advanced concerns the Fed's recent hawkish rhetoric (for the record, I do not expect this to result in an increase in interest rates in December, but consider it so much wind). Stock market bulls for years have used the liquidity argument for a reason to buy stocks. But now that the Fed is preparing (or trying to make us think it is preparing) to hike rates, I read about how that's bullish for stocks because it signals a return to normalcy. Really? So by similar reasoning, if the Fed enacted QE4 instead it would be bearish. How convenient that the logic of how liquidity helps stocks got turned around 180 degrees right about the time the Fed has few options before it other than the question of when to turn 180 degrees.

Investing, of course, is famously not about selecting the prettiest girl in the room but about selecting the girl that everyone else thinks is the prettiest. If you can get ahead of the screwy logic correctly, you can do quite well. I am awful at doing this. I simply can't make myself think in this kind of twisted way, which is why I am a systematic value-tilted investor.

I've also, although only over the last week or so, heard Amazon cited as one reason the market is doing well. Specifically, Amazon reported strong Q3 growth and expects a record holiday season. But...Amazon isn't forecasting a record Christmas for everyone; it continues to add market share in the movement from foot-traffic shopping to online shopping. It would be shocking if it were not a record Christmas season for Amazon, even if the economy contracted! In any event: show me. I suspect Christmas will be better than it has been for a few years, since Unemployment is lower than it has been for a while and gasoline prices are lower which should increase discretionary spending. (It should be noted, though, that economists have been looking for the increase in discretionary spending for a few quarters now and it hasn't really shown up). But as an excuse for adding a couple trillion dollars in market value? Seems a bit of a stretch.

As usual, the signals are not the same away from the stock market as they are within the stock market. Commodities markets remain very weak, although energy showed some strength today. This isn't a new divergence, though - since the commodity market diverged from the stock market in late 2011, the Bloomberg Commodity Index is down about 42% while the S&P 500 is up about 89% (see chart, source Bloomberg).

BCOM Index Nov 2008-Nov 2014

Looking at that chart, it is fair to point out that the recent dip in stocks is reminiscent of the dip in late 2011, which was also from overvalued conditions (although not nearly so overvalued as now) but which culminated in a blast-off in one of the most continuous rallies without a 10% correction the market had ever seen. It is worth pointing out, of course, that in 2011 the Unemployment Rate was at 9% and coming down, while it is now at 5.1% and likely heading up soon. We also had a further QE to look forward to (in 2013), while that looks unlikely now. And there are other differences that seem to me to carry more weight than a curious symmetry of chart patterns. But, as I said, I am awful at figuring out who everyone else thinks is the prettiest girl today. As for the stock market, it looks like a hag to me.

 


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Michael Ashton

Author: Michael Ashton

Michael Ashton, CFA
E-Piphany

Michael Ashton

Michael Ashton is Managing Principal at Enduring Investments LLC, a specialty consulting and investment management boutique that offers focused inflation-market expertise. He may be contacted through that site. He is on Twitter at @inflation_guy

Prior to founding Enduring Investments, Mr. Ashton worked as a trader, strategist, and salesman during a 20-year Wall Street career that included tours of duty at Deutsche Bank, Bankers Trust, Barclays Capital, and J.P. Morgan.

Since 2003 he has played an integral role in developing the U.S. inflation derivatives markets and is widely viewed as a premier subject matter expert on inflation products and inflation trading. While at Barclays, he traded the first interbank U.S. CPI swaps. He was primarily responsible for the creation of the CPI Futures contract that the Chicago Mercantile Exchange listed in February 2004 and was the lead market maker for that contract. Mr. Ashton has written extensively about the use of inflation-indexed products for hedging real exposures, including papers and book chapters on "Inflation and Commodities," "The Real-Feel Inflation Rate," "Hedging Post-Retirement Medical Liabilities," and "Liability-Driven Investment For Individuals." He frequently speaks in front of professional and retail audiences, both large and small. He runs the Inflation-Indexed Investing Association.

For many years, Mr. Ashton has written frequent market commentary, sometimes for client distribution and more recently for wider public dissemination. Mr. Ashton received a Bachelor of Arts degree in Economics from Trinity University in 1990 and was awarded his CFA charter in 2001.

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