Monthly Market Commentary For March, 2017

The Very Big Picture:

In the “decades” time frame, the question of whether we are in a continuing Secular Bear Market that began in 2000 or in a new Secular Bull Market has been the subject of hot debate among economists and market watchers since 2013, when the Dow and S&P 500 exceeded their 2000 and 2007 highs.  The Bear proponents point out that the long-term PE ratio (called “CAPE”, for Cyclically-Adjusted Price to Earnings ratio), which has done a historically great job of marking tops and bottoms of Secular Bulls and Secular Bears, did not get down to the single-digit range that has marked the end of Bear Markets for a hundred years, but the Bull proponents say that significantly higher new highs are de-facto evidence of a Secular Bull, regardless of the CAPE.  Further confusing the question, the CAPE now has risen to levels that have marked the end of Bull Markets except for times of full-blown market manias.

Even if we are in a new Secular Bull Market, market history says future returns are likely to be modest at best.   The CAPE is at 28.44, up from the prior week’s 28.15, and now exceeding the level reached at the pre-crash high in October, 2007.  Since 1881, the average annual return for all ten year periods that began with a CAPE around this level have been just 3%/yr.

10 Year Annualized Real US Returns

This further means that above-average returns will be much more likely to come from the active management of portfolios than from passive buy-and-hold.  Although a mania could come along and cause the CAPE to shoot upward from current levels (such as happened in the late 1920’s and the late 1990’s), in the absence of such a mania, buy-and-hold investors will likely have a long wait until the arrival of returns more typical of a rip-snorting Secular Bull Market.

The Big Picture:

The “big picture” is the months-to-years timeframe – the timeframe in which Cyclical Bulls and Bears operate.  The U.S. Bull-Bear Indicator (see Fig. 3 below) is in Cyclical Bull territory at 72.17 up from the prior week’s 67.60.

In the Intermediate and Short Term Picture:

The Shorter-term (weeks to months) Indicator (see Fig. 4 below) turned positive on November 10th.  The indicator ended the week at 33, up from the prior week’s 31.  Separately, the Intermediate-term Quarterly Trend Indicator – based on domestic and international stock trend status at the start of each quarter – was positive entering January, indicating positive prospects for equities in the first quarter of 2017.

Time frame summary:

In the Secular (years to decades) time frame, whether we are in a new Secular Bull or still in the Secular Bear, the long-term valuation of the market is simply too high to sustain rip-roaring multi-year returns.  The Bull-Bear Indicator (months to years) is positive (Fig. 3 below), indicating a potential uptrend in the longer time frame.  In the intermediate time frame, the Quarterly Trend Indicator (months to quarters) is positive for Q1, and the shorter (weeks to months) time frame (Fig. 4 below) is positive.  Therefore, with all three indicators positive, the U.S. equity markets are rated as Positive.

In the Markets:

U.S. Stocks:

U.S. benchmarks ended the week mixed for the holiday-shortened week.  The LargeCap Dow Jones Industrial Average performed the best and managed to score its 11th consecutive record daily close—a feat not seen since the 1980’s.  The S&P 500 index also moved higher and continued its run of exceptionally low volatility, having not had a daily swing of over 1% since the middle of December.  The Dow Jones Industrial Average had its 3rd straight week of gains, adding +197 points to close at 20,821, up +0.96%.  The tech-heavy Nasdaq Composite added +6 points to close at 5,845, up +0.12%.  LargeCaps edged Small- and Mid-Caps as the LargeCap S&P 500 added +0.69%, while the MidCap S&P 400 rose +0.11%, and the small cap Russell 2000 declined -0.38%.  Utilities had a strong week as the Dow Jones Utilities Average surged over +4% for its fourth straight weekly gain.

In International Markets:

In international markets, Canada’s TSX had its first down week in three, falling -1.93%.  Across the Atlantic, the United Kingdom’s FTSE fell -0.77%.  Markets were mixed on Europe’s mainland.  Germany’s DAX gained +0.4%, while France’s CAC 40 and Italy’s Milan FTSE retreated -0.46% and -2.16% respectively.  In Asia, China’s Shanghai Composite gained +1.6% along with Japan’s Nikkei which added +0.25%.  Hong Kong’s Hang Seng fell -0.28%.  As measured by Morgan Stanley Capital International, developed markets as a group were down -0.18%, while emerging markets as a group gained +0.23%.

In Commodities:

In commodities, precious metal continued to shine, rising for a fourth straight week.  Gold rose +$19.20 to end the week at $1,258.30 an ounce, up +1.55%.  Silver had its ninth straight week of gain, rising +2.09% to $18.41 an ounce.  In energy, oil continued to trade in a very tight range, rising +0.39% to $53.99 a barrel.  The industrial metal copper, viewed by some as a gauge of worldwide economic health, retreated a second week, down -0.41%.

U.S. Economic News:

In U.S. economic news, the number of workers who applied for unemployment benefits last week rose by +6000 to 244,000, but layoffs remained near the ultralow levels last seen in the early 1970’s.  In addition, the Labor Department reported the less-volatile four-week average of initial claims dropped by -4000 to 241,000, its lowest reading since July 1973.  Analysts use this number to smooth out the volatility of the weekly data.  Both numbers remain under the 300,000 threshold that analysts look at as a “healthy” job market.  The data continues to show that companies are holding on to their current workforce with the economy continuing to grow steadily and a shrinking labor pool.  The current unemployment rate stands at 4.8%.  Continuing jobless claims, counting those already receiving benefits, fell by -17,000 to 2.06 million the previous week.  That number is reported with a one-week delay.

U.S. Housing:

Sales or previously-owned homes surged to their highest level in a decade last month, a sign of robust demand despite higher mortgage rates and dwindling supply.  The National Association of Realtors (NAR) reported existing-home sales were at a seasonally-adjusted annual pace of 5.69 million, +3.3% higher than last month, and +3.8% higher than the same time last year.  As of last month, there was a 3.6 month supply of homes for sale.  It was the 20th consecutive month in which inventory had declined on an annual basis.  The number of homes available for sale declined -7.1% compared to the same time last year, even as prices rose over +7%.  The current median price of an existing home is $228,900.  NAR Chief Economist Lawrence Yun said strong sales despite the challenging headwinds of rising prices and higher mortgage rates show consumers’ “tremendous resilience” and desire for homeownership.

Sales of newly-constructed homes rebounded last month to a seasonally adjusted annual rate of 555,000 according to the Commerce Department.  That was +3.7% higher than in December, and +5.5% higher than the same time last year.  The tally of new home sales for 2016 was 561,000 homes, the highest since 2007 and an increase of +12% over 2015.  Last month’s median sales price was $312,900, +7% higher than January of 2016.  At January’s sales pace, there is a 5.7 months available supply on the market.  Overall the trend in sales of new and existing homes continues to slowly and steadily grind upward.

U.S. Commerce:

Consumer sentiment remained strong in February, and still pointed to consistent growth according to the University of Michigan’s consumer sentiment index.  The index retreated from last month’s 13-year high, falling -2.2 points to 96.3.  Richard Curtin, the Surveys of Consumers chief economist stated, “Overall, the Sentiment Index has been higher during the past three months than any time since March 2004. Normally, the implication would be that consumers expected Trump’s election to have a positive economic impact; however that is not the case since the gain represents the result of an unprecedented partisan divergence, with Democrats expecting recession and Republicans expecting robust growth.”

According to data released Tuesday, momentum in both the U.S. manufacturing and service sectors slowed this month.  Markit’s flash U.S. Manufacturing Purchasing Managers Index (PMI) fell -0.7 point to a seasonally adjusted reading of 54.3.  Markit’s similar measure for services also fell -1.7 points to 53.9, with both indices at 2-month lows.  While readings above 50 still indicate improving conditions, the rate of improvement is slowing.  Chris Williamson, chief business economist at IHS Markit said, “The drop in the flash PMI numbers for February suggests that the post-election upturn has lost some momentum.”  Williamson noted a sharp pull-back in business optimism for the next 12 months among the respondents.

Minutes from the Federal Reserve’s last interest-rate meeting revealed “many” Federal Reserve officials expressed support for raising interest rates “soon”, but were wary given that the fiscal policy of the new Trump administration and Republican Congress remain largely unknown.  According to the minutes, officials used the phrase “considerable uncertainty” when characterizing the new administration’s fiscal plans. Only a “couple” of the 17 Fed officials argued that uncertainty over fiscal policy should not delay a near-term rate hike, while most officials said it would take “some time” for the outlook on fiscal policy to become clearer.  As for when to expect the next rate hike, Ian Shepherdson, chief economist at Pantheon Macroeconomics, said “May is more likely than March, but a blockbuster payroll report for February could easily change that.”

In International Markets:

In Canada:

In Canada, the Conference Board of Canada reported that Alberta will lead the country in terms of real GDP growth this year, due to rising oil production in the region.  The report said, “The recent stability in oil prices has encouraged optimism that the worst is over, laying the foundation for a modest gradual recovery in capital spending in the energy sector.”  The board projects a real GDP growth rate for 2017 of 2.8% for Alberta.  Ontario is also expected to post solid growth, with GDP expanding 2% this year. British Columbia will grow at 1.9%, a solid forecast even though it is down significantly from average growth above 3% for the last three years.  Expectations for Quebec are also robust, with growth expected to average 1.9% in both 2017 and 2018 driven by consumer spending and job creation.  In the west, oil prices are also helping Saskatchewan, which will return to positive growth, with GDP expanding 0.9%, the report said. Manitoba will continue to advance at a healthy 1.9% clip.  Newfoundland and Labrador is the only province expected to contract, with the economy forecast to shrink 1.8% amid a 57% collapse in investment.

In the United Kingdom:

In the United Kingdom, Britain’s economy accelerated at the end of 2016, but over the whole year it was weaker than previously thought.  In its report, the UK’s Office for National Statistics no longer showed Britain as having the fastest growing major economy last year.  Gross Domestic Product rose by +0.7% in the fourth quarter, +0.1% higher than the preliminary report.  However, falling business investment and slowing household spending growth weighed on the outlook for 2017.  Angus Armstrong, director of macroeconomics at the National Institute of Economic and Social Research said the familiar pattern of consumers driving the economy was likely to fade.  He stated, “The UK economy needs another driver if it is not to have a significant slowdown in 2017.  The pattern of strong consumer spending and weaker business investment can only be a limited one.”  Bank of England deputy governor Minouche Shafik said after the data release that the central bank still expected overall economic growth this year of 2.0 percent.

In France:

In France, the Centrist presidential contender Emmanuel Macron proposed a “Nordic” economic model for France.  The candidate outlined a Nordic-style economic program mixing fiscal discipline and public spending following increasing pressure to clarify his policies two months before France’s presidential election.  Macron said in an interview that he would target 60 billion euro in savings over 5 years and cut up to 120,000 civil service jobs, while vowing to re-inject 50 billion euro into the Eurozone’s second largest economy.  Macron stated, “We need to invent a new growth model, to be fair and sustainable it must be environmentally friendly and increase social mobility.”    Mr. Macron, who set up his party En Marche! 10 months ago, has become a serious contender by promising policies that are “neither on the right nor on the left”.

In Germany:

Germany overtook the UK as the fastest growing among the G7 states last year with its economy expanding at the fastest rate in five years, growing +1.9%.  The expansion pushed Britain into second place after the Office of National Statistics revised downward the UK’s annual growth rate to +1.8%.  In the final quarter, Germany’s economy grew by +0.4% fueled by domestic demand as both government and consumer spending rose.  Government spending in Germany rose +0.8%, and household spending increased by +0.3%.  Trade was a drag on GDP however, as the +3.1% growth in imports outpaced exports growth of +1.8%.  Germany’s statistics office, Destatis, described the country’s economy as “solid and steady”.

In China

In Asia, China has replaced its commerce minister and the head of its top economic planning body as the country grapples with mounting financial pressures, according to state media.  Massive debt, plunging outward investment and capital flight are troubling the world’s second largest economy.  China also has the added pressure of new U.S. President Donald Trump who is accusing the country of currency manipulation and stealing American jobs.  Zhong Shan will become the new minister of commerce and He Lifeng will take over the powerful National Development and Reform Commission (NDRC) the official Xinhua news agency reported.  Zhong Shan is widely known as a trade specialist who used to work in a trading company himself.  His appointment reflects Beijing’s emphasis on maintaining its competitive position in trade.

In Japan:

In Japan, the aging population is leading to projections of a dire labor shortage in the world’s third largest economy.  Prime Minister Shinzo Abe has made it clear that opening the country to permanent immigration by unskilled labor isn’t an option, expressing the long-standing Japanese fear that foreigners would cause social unrest and erode national identity.  A Manpower survey found 86% of Japanese employers reported having difficulty filling vacancies last year, more than any other country surveyed.  Japan has one of the lowest unemployment rates among developed nations at 3.1%, and that number is forecast to drop even lower.

Finally, market bulls will be emboldened by a bullish signal that’s about to flash—and has never been wrong.  Sam Stovall, Chief Investment Strategist at CFRA, notes that one indicator he follows is about to get triggered.  He notes that, since 1945, there have been 27 years when the S&P has achieved gains in both January and February.  The stock index then finished up for the year (on a total-return basis) in every single one of those years.  According to Stovall, that’s going 27 for 27, or batting a thousand.  The average rise in those years was a way-above-average +24% according to Stovall’s research.  While a heck of a precedent, past performance is no guarantee of future results!

(sources: all index return data from Yahoo Finance; Reuters, Barron’s, Wall St Journal, Bloomberg.com, ft.com, guggenheimpartners.com, ritholtz.com, markit.com, financialpost.com, Eurostat, Statistics Canada, Yahoo! Finance, stocksandnews.com,  marketwatch.com,  wantchinatimes.com, BBC, 361capital.com, pensionpartners.com, cnbc.com, FactSet; Figs 1-5 source W E Sherman & Co, LLC)