Why Investors Care About Obamacare
Last week, the benchmark S&P 500 index lost 1.4%, its biggest decline since November while the blue-chip DOW Jones Industrial Average fell 1.5%, its steepest decline since September. The tech-heavy Nasdaq Composite Index logged a 1.2% weekly loss, its largest since December. The smaller cap Russell 2000 and MidCap 400 indexes are the biggest losers ending down 2.65% and 2.12% respectively. As seen in the chart below, since the presidential election the major stock indexes moved higher but have been trending sideways the month of March. Conversely precious metals and treasury bonds had suffered under the threat of higher interest rates, but are starting to recover the past few weeks as the dollar has waned.
A standard chart that we use to help confirm the overall market trend is the Momentum Factor ETF (MTUM) chart. Momentum Factor ETF is an investment that seeks to track the investment results of an index composed of U.S. large- and mid-capitalization stocks exhibiting relatively higher price momentum. This type of momentum fund is considered a reliable proxy for the overall stock market trend. We prefer to use the Heikin-Ashi format to display the Momentum Factor ETF. Heikin-Ashi candlestick charts are designed to filter out volatility in an effort to better capture the true trend. Our recent analysis is playing out as advertised where we noted "...you can see how the upward move is stalling out. The price trend is moving sideways to absorb stocks overbought condition. Investors appear be waiting on stock prices to pull back a little so that they can step in and start bidding to drive the next market leg higher..." given the recent behavior of the stock market, now the question appears to be whether the price trend will continue to move sideways or start turning down?
In the chart below the DOW Transportation index ($TRAN) continues to diverge lower from the Dow Jones Industrial Average ($INDU). We look for DOW Transports and Industrials to move in synch to confirm a trend. You can see that the DOW Industrials are starting to turn down which suggest the recent price pullback could have legs.
A tool to help confirm the overall market trend is the Bullish Percent Index (BPI). The Bullish Index is a popular market "breadth" indicator used to gauge the internal strength/weakness of the market. Like many of the technical market internal indicators, it is used both to confirm a move in the market and as a non-confirmation and therefore divergence indication. Nasdaq stocks have been leading the market direction for the past year. Our recent analysis appears to be valid where we stated "...Whenever the Nasdaq index stocks falter the overall market usually stalls which is what currently appears to be the case. If the BPCOMPQ chart continues its current downtrend it might be difficult the major stock indexes to start making new highs again..." Until the BPCOMPQ recovers we don't expect the equity market to start accelerating to new highs again.
In the chart below, the dollar has sunk to the lowest level in seven weeks and is currently hovering around year-to-date lows. The dollar had moved higher since the election in anticipation of Trump's pro-growth agenda but is taking a pause and has shifted more into a "show me" phase of the rally. In response to the falling dollar, gold and treasury bonds cemented their second-straight weekly gain, demand for assets perceived as risky waned as recalcitrant House Republicans handed President Donald Trump his first major political defeat by refusing to support his bill to repeal and replace Obamacare.
The failure to achieve passage raises concerns about the outlook for corporate tax cuts and other elements of President Donald Trump's agenda, which analysts said was the reason for weakness in capital markets over the past week. "At a time when the S&P 500 is trading above its fair value if you consider a forecast of $130 earnings per share on a 17-times multiple, Wall Street would really like to be reassured about the tax reforms," said Kim Caughey Forrest, senior analyst and portfolio manager at Fort Pitt Capital Group. Kate Warne, investment strategist at Edward Jones, said the "inability of the Congress to pass the health-care bill would send a signal that other policies, such as tax reforms may be delayed too. The weakness over the past week is a reflection of such concerns." You can see in the quarterly chart how gold is now the top performer as the dollar has crashed. As market leaders Nasdaq stocks are still showing strong year-to-date results which is a positive for the overall market as other equity indexes have weakened.
The CBOE Volatility Index (VIX) is known as the market's "fear gauge" because it tracks the expected volatility priced into short-term S&P 500 Index options. When stocks stumble, the uptick in volatility and the demand for index put options tends to drive up the price of options premiums and sends the VIX higher. As evidenced in the updated chart below, as equity prices have faltered a bit the past few weeks' investors are starting to show signs of nervousness by driving the VIX higher.
The American Association of Individual Investors (AAII) Sentiment Survey measures the percentage of individual investors who are bullish, bearish, and neutral on the stock market for the next six months; individuals are polled from the ranks of the AAII membership on a weekly basis. The current survey result is for the week ending 03/22/2017. Pessimism among individual investors is down for the second consecutive week, according to the latest AAII Sentiment Survey. At the same time, neutral sentiment is now at its highest level since mid-February. Bullish sentiment, expectations that stock prices will rise over the next six months, rose 4.1 percentage points to 35.3%. The historical average is 38.5%. Neutral sentiment, expectations that stock prices will stay essentially unchanged over the next six months, rose 4.1 percentage points to 34.2%. The increase puts neutral sentiment back above its historical average of 31.0% for the first time in five weeks. Bearish sentiment, expectations that stock prices will fall over the next six months, plunged 8.2 percentage points to 30.5%. Pessimism was last lower on February 8, 2017 (27.7%). This is the ninth week in the past 10 with a bearish sentiment at or above its historical average of 30.5%. After reaching an unusually high level of 46.5% two weeks ago, pessimism has pulled back by a cumulative 16.0 percentage points. At the same time, neutral sentiment has rebounded by a cumulative 10.7 percentage points. Neutral sentiment had fallen to near the bottom of its typical range, having registered 23.5% on March 8, 2017. It is worth noting that despite these shifts, pessimism is currently right at its historical average while optimism remains below its historical average.
The National Association of Active Investment Managers (NAAIM) Exposure Index represents the average exposure to US Equity markets reported by NAAIM members. The blue bars depict a two-week moving average of the NAAIM managers' responses. As the name indicates, the NAAIM Exposure Index provides insight into the actual adjustments active risk managers have made to client accounts over the past two weeks. The current survey result is for the week ending 03/22/2017. Fourth-quarter NAAIM exposure index averaged 84.15%. Last week the NAAIM exposure index was 80.77%, and the current week's exposure is 68.68%. Recently we said "... Investors appeared to have played it safe by selling off some equities to cash in profits ahead of next week's Fed meeting..." Investors are cashing out profits from the recent price run up and parking funds into treasury bonds.
One explanation as to why equity prices have been crippled lately is because it became increasingly unlikely that the "repeal and replace" of the Affordable Care Act would pass. We have heard a lot of people comment that the proposed law isn't necessarily a repeal. It's basically a collection of revisions and tweaks designed to get the original Obamacare working properly, along with a giant tax cut. But here's the catch, if this doesn't pass, the market doesn't get the tax cut. And the market cares a lot more about tax cuts. In the updated chart below you can see how already, traders are responding by dumping all categories of equities. The S&P category most above water the past month is Utilities, which mirror the performance of bonds. Investors appear to believe inflation won't be ignited by an accelerating economy, therefore dividends and interest payments will continue to offer value. In the current trading environment, credit spreads and short term directional trades are working well for us.
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