Defiance

Defiance.  Markets rose for a third straight day, paying no mind to protests and China tensions. A growing number of areas are loosening restrictions, empowering the bulls.

N O T E W O R T H Y

Got this funny feeling?  If so, you are not alone.  Earnings expectations for the remainder of the year continue to drop and the economy… well it isn’t looking too great either.  Yesterday, the St. Louis Fed GDPNow indicator predicted that US GDP would drop by -52.8%, driven by drops in consumer spending (-58.1%) and private investment (-61.6%). I won’t go over the employment situation because… well, by now you already know.  If you just observed the stock market’s behavior recently, you would probably not suspect that we are in the midst of a global pandemic and that there has been increasing social unrest gripping the US.  Yes, and the little row brewing between the US and China has not gone away.  Many of us spend our working hours attempting to make sense of the markets in hopes that it will help us better position our portfolios for what happens next.  Why then, do the markets appear to defy the realities being played out in economic numbers, earnings releases, and the news?  It all comes down to timing.  Economic indicators and earnings reflect what has happened and markets are supposed to reflect what will happen.  Because economic numbers come from official sources, we can assume that they are reasonably accurate, so we naturally find comfort in those. Public companies must follow strict rules on how they report earnings and there is an army of talented analysts who pressure them to be as transparent as possible about future prospects. So, similar to economic releases, we find comfort in corporate earnings.  If we look at all of those numbers, things look rather grim… or rather, we should say “things LOOKED grim”.  If one takes that approach, it should be less of a surprise that markets are trading up.  Things were indeed grim for the economy and companies over the past several months. So then, what about the future?  I remember writing about the pandemic a few months back stating multiple times that the pace of the virus would dictate the pace of the economy.  Which seems rather obvious now that we are well into the virus growth curve, but prior to the wave of shelter orders and limited understanding of the virus it was very difficult, if not impossible, to determine what the economy or the markets might be like even a few months forward.  Numerically speaking, that meant volatility, and lots of it.  Recall that the VIX Volatility Index estimates the S&P500’s volatility based on options prices on S&P futures. Back in March, that index peaked at 82 which estimated that the S&P500 could swing as much as +/- 23.6% in just one month!  I am sure I don’t have to remind you how crazy the markets were during that period.  Having a look at the VIX today may offer us some insight, if not some cold comfort.  As I write this note the VIX is trading at 26.85 which is still high by normal standards but a lot lower than the readings of a few months back.  At this level, the VIX predicts monthly swings to be in the +/- 7.8% range.  As I said, still volatile but quite a bit more tolerable to many investors. Now on to the harder part which is answering the question of where we will be in 12 months from now.  If you look at expected earnings you will note that analysts and companies are lowering expectations for the remainder of 2020, which is no surprise as things are not in any way back to normal.  If you look at 2021 earnings expectations you would note that they too are being lowered, but by a lot less than the remainder of this year, adding further evidence that 2021 will be the upside year of a U-shaped recovery.  Looking at news on the virus front we should not be surprised by a slight pickup in economic activity as more and more of us carefully venture back to our former favorite institutions. Though the activity is not remotely near where it once was and it may never return to it, however the increased activity does mark somewhat of a turning point.  More and more progress is being made on the COVID treatment front and a consensus seems to be zeroing in on year end for a vaccine.  That is just six months away… which supports the investment thesis that 2021 will be a growth year.  Add to that a continuously supportive Fed and potentially more Federal stimulus, and we can see why investors are acting more bullish as of late.  The real investment challenge is determining which companies will fare best in the months ahead, and equally important, how to deal with the bumpy ride ahead… six more months of it.

THE MARKETS

Stocks traded up yesterday on more ongoing optimism on the slowly reopening of the US economy.  Investors appear to be shrugging off ongoing risks associated with China and the surge in destruction caused by nationwide riots.  The S&P500 rose by +0.82%, the Dow Jones Industrial Average climbed by +1.05%, the Russell 2000 traded up +0.91%, and the Nasdaq Composite Index advanced by +0.59%.  Bonds traded up and 10-year treasury yields were steady at 0.68%.  Gold slipped slightly yesterday on continued optimism giving up -05.3%, though it still remains just below recent highs.

NXT UP 

- ADP Employment Change (May) is expected to show a contraction of -9 million jobs compared to last month’s job losses of 20.236 million.

- Markit Services PMI (May) is expected to be 37.3 up from the prior reading of 36.9.

- ISM Non-Manufacturing Index (May) is expected to print 44.4, up from last month’s 41.8.

- Factory Orders (April) may have fallen by -13.4% versus the prior month’s decline of -10.4%.

- The final read on April Durable Goods Orders is expected to show a -17.2% pullback, in line with prior estimates.

- Cinemark Holdings and Campbell Soup Co beat estimates this morning and we will hear from American Eagle Outfitters before the bell.

daily chartbook 2020-06-03