Goodbye to a legend
Key themes and stocks discussed today:
Wall Street had a quiet day, trading within a narrow range ahead of key catalysts due out this week, including the Fed’s verdict on rates, Apple’s key earnings result and labour market data on Friday. These events, along with the remaining earnings reports coming through, will influence market direction into the end of the year.
The Bank of Japan moved on YCC yesterday, which put a bid under the banks and life insurers (where we hold heavy positions) but failed to turn around the very weak yen. What’s important is that the BOJ is committed to changing course and doing it in an orderly fashion without disrupting markets.
Don’t count on a Santa rally. Morgan Stanley’s Mike Wilson warns the correction is not over yet, with further to go on the downside into the year-end as Wall Street revises down earning guidance in the months ahead. This week’s events will underpin market direction.
Goodbye to a legend. Byron Wien, a legendary strategist on Wall Street, dies at 90 but leaves behind a body of wisdom. I have included his top 20 insights into living a rewarding life.
There were mixed economic signals from the US, with housing prices looking strong but consumer confidence waning further. A key Conference Board metric continues to signal a looming recession.
China’s manufacturing sector unexpectedly returned to contraction, weighing on equities. The BOJ came to the table with a new tweak, pushing local financial stocks higher. More is likely on the way, but the BOJ will follow a gradualist approach, which is the correct way.
Economic data was mixed, with well-received inflation figures but a slight stumble for the Eurozone in 3Q23.
Notable chart and stock mentions today include S&P500 Equal weight index, Russell 2000, Dollar/yen, JGB 10-year yield, Earnings revision breadth, Tesla, Apple, Caterpillar, Pinterest, Zillow, Zhaojin Mining, Japanese banking index, Panasonic, Dai-Ichi Life Insurance, BP, Vodafone, Silver Lake, and Inghams.
Good morning,
Wall Street lifted throughout Tuesday, with a rebound continuing from oversold levels. Trading was quiet as investors moved to the side-lines ahead of the key FOMC meeting verdict due out later today (US time) and key labour market data on Friday. Mega-cap growth stocks lagged with Meta Platforms, Alphabet, and Nvidia, all lower ahead of Apple’s earnings, which will be reported after the bell tomorrow. The dollar lifted sharply against the yen despite the BOJ further relaxing YCC measures yesterday.
The Dow Jones was higher by +0.38%, the S&P 500 rose +0.65% to 4193, while the Nasdaq Composite added +0.48%. US equities are tracking for their third straight month of losses, with the S&P 500 and the Nasdaq logging their biggest October percentage decline since 2018. The sell-off needs to be viewed in perspective, given the rally from the October lows to the July peak was one of the largest historically for the S&P500.
The bond market was relatively steady, with rates edging higher at the short end of the curve but easing at the long end. The US10-year declined 2bps to 4.88%. The US dollar was higher, with the DXY adding 0.5% to 106.65, but this was primarily on the back of the weaker yen. The Dollar/yen rose above 151 for the first time since the 1970s as traders ignored the moderate steps towards monetary policy normalisation taken by the Bank of Japan yesterday. Oil prices continued to correct lower and consolidate following the big run into the mid-$90s while gold eased into stronger dollar headwinds.
This week will be influential on financial markets and direction, with several key catalysts dropping in the coming days. We will soon find out whether the correction in US benchmarks (and global equities) will establish a floor and finish the year with a Xmas rally or if the decline has further to go.
Morgan Stanley’s head strategist Mike Wilson believes that in the past month, “the chances of a 4Q rally have fallen considerably. Our observations on narrowing breadth, cautious factor leadership, falling earnings revisions and fading consumer and business confidence tell a different story than the consensus, which sees a rally into year-end that’s based mostly on bearish sentiment and seasonal tendencies. While we acknowledge that sentiment deteriorated in September, it recovered this month on the expectation of better 3Q earnings and seasonal strength into year-end. In our view, the fundamental setup is different than normal this year, with earnings expectations too high for the fourth quarter and 2024, even in an economy that’s performing well.”
We have certainly seen a patchy third quarter reporting season whereby companies have lowered their guidance and outlook for the next several quarters. This is not what the bulls were looking for, with the soft-landing narrative anchored to a bottoming out of earnings revisions this quarter and for an acceleration of growth into next year. This has so far proven to be elusive despite the very hot US GDP print, with business conditions “as good as it gets”.
As Mike Wilson noted this week in an update, “we think this performance backdrop reflects a market that is incrementally more concerned about growth than higher interest rates and valuations per se. Even though the Fed has tightened monetary policy at the fastest pace in 40 years, it is still confronted with sticky labour and inflation data that have been obstacles to signalling a definitive end to the tightening cycle or when it will begin to ease policy.”
“This is one reason why market breadth continues to exhibit notable weakness. While some may interpret this as a bullish signal (eg oversold conditions) – we believe it’s more a reflection of our view that we are still against a late cycle backdrop where earnings remain at risk for most companies. Further support for that view can be seen in earnings revision breadth, which is breaking sharply lower again into negative territory and tends to lead EPS forecasts.”
The S&P500 equal weight index is a better reflection of how most companies have performed in the US this year, as opposed to the largest. Thus, it is telling that the SPX 500 equal weight index took out the January opening level and is now down YTD. This highlights the fact that most companies are underperforming with a narrow breadth driving the market.
Additionally, the Russell 2000 small/midcap, where index constituents are more sensitive to business conditions and the economy, has also confirmed this pattern. The Russell2000 has taken out the January opening levels and fallen to a YTD loss and is presently testing historical support on the 2-year weekly chart below.
Mike Wilson noted that “for the headline S&P 500 Index, most of the mega-cap leaders that have reported so far have not traded well post their 3Q results. With this group unable to reverse the ongoing correction and keep the index above key technical levels, this is just another reason why a rally into year-end looks more unlikely to us. Bottom line, we think the S&P 500 price action into year-end is more likely to come down to where the average stock is trading rather than rallying to higher levels because breadth typically leads price. Based on our fundamental and technical analysis, we remain comfortable with our long-standing 3,900 year-end target for the S&P 500, which implies a 17x multiple on our 2024 EPS forecast of approximately $230.”
Mike has been a well-known bear this year and has been wrong for a big part of it. However, he makes some good points. Deteriorating technical and a patchy reporting season coupled with tightening financial conditions could jeopardise the Xmas rally that many have come to expect in the coming months. This week will be defining for financial markets with several important catalysts likely to set the direction for the end of the year. We continue to advocate holding some cash and positioning in more defensive energy, commodities and precious metals. In the Fat Prophets Global Contrarian Fund and Global High Conviction ETF we have also actively hedged.
Source Morgan Stanley
The BOJ moved yesterday to tweak yield curve control measures, which was once again great for the banks with long end bond yields rising but didn’t accomplish much with shoring up the yen. Bank of Japan Governor Kazuo Ueda would have been disappointed with the drop in the yen, which fell to the lowest level against the dollar in decades. The path towards policy normalisation is going to be difficult due to the disruptive impact on global capital flows. I expect only incremental measures to be adopted to ensure volatility does not erupt within the markets.
The Dollar/yen moved above resistance at the psychological ¥150 level in Tuesday, which raises near-term scope for further upside extension. However, the rate differential is set to contract markedly between Japan and the US in the year ahead, in my view. There is an inflection coming for the yen, which, in terms of purchasing power parity with the US has fallen to historically low levels and stands out as one of the cheapest currencies.
The yen unexpectedly weakened after the central bank loosened its grip on bond yields yesterday. Japan is moving closer to a more conventional policy approach, and we can expect more relaxation measures in the coming year. Ultimately, I expect the 10-year JGB yield to move above 1.5%, which at some point will elicit a bid and rally in the yen.
To his credit, Mr Ueda is trying to go slowly to avoid shocking financial markets, and while steps might be slow, there is now no doubt about the direction the BOJ is headed. This must be good in the year ahead for the Japanese financials and banks that are being effectively released from decades of financial repression.
However, Mr Ueda is wise to tread cautiously, given the BOJ’s rock-bottom rates have helped anchor bond yields around the world. An abrupt removal of stimulus would spur upward pressure and disrupt capital flows globally. It could also risk sparking a flow of Japanese portfolio investment out of overseas markets and back to Japan. Since 2016, when the BOJ introduced its negative rate and yield curve control, Japanese investors have accumulated ¥66 trillion of foreign bonds, including those in the US, France, and Australia. A further rise in local yields could threaten to trigger repatriation flows and help deepen losses in these markets if not executed carefully.
The Japanese 10-year JGB bond yield hit 0.95% – which represents a quadrupling from levels at the beginning of the year.
Moving on, former Dallas Federal Reserve President Richard Fisher said during an interview on CNBC that the “higher for longer outlook” for interest rates sparked a historic crash in Treasury bonds this month, but “there’s another factor that’s set to keep yields higher going forward, and that’s US fiscal policy”.
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