Markets | Economy | Ideas
A Choppy Year for Stocks
The stock market this year has been like flying through turbulence in a circle: Many ups and downs only to end up in the same place. This S&P 500 rose only 0.4% in the first quarter, but there were daily swings of 1% or more on roughly a third of the quarter’s trading days, accordingly to SunTrust strategist Keith Lerner and Barron’s writer Ben Levisohn. Compare this to only 15% of trading days in 2014 with 1% or greater market swings.
Recent downward revisions in earnings estimates have been hampering any growth in stocks. Forecasts are calling for a 4.6% drop in earnings from one year ago, according to FactSet. This would be the biggest decline in earnings since 2009 and the first decline since Q3 2012. One positive sign for the markets in all of this is that the news is priced in, and what typically happens with downward earnings expectations is that companies lower the expectations so much so that they always seem to beat them. Expect companies to beat their forecast earnings numbers, even though those numbers were revised downward weeks earlier.
The Hunt for Yield
Yield prices have recently fallen, with 10 year treasuries now yielding only 1.889%, very close to a two year low. This is due to many reasons, including weakening economic news around the globe, pushing foreign buyers to purchase US treasuries, pushing yield down further. If you thought yields are bad in the US, look to Germany. Their 10 year government bond is 0.140%. Yes, that’s right. 10 year returns of 0.140%. Even worse, Switzerland just issued 10 year bonds with NEGATIVE 0.055%. That’s right; you have to pay the government of Switzerland for them to hold your money. There was a total amount of $371,000,000 purchased between the 10 year and a 25 year (with a slightly positive yield) so there are plenty of people who thought that was the best place for their money.
Strong Dollar & Low Oil
The biggest market news of the year has been the strengthening dollar and the decrease in the price of oil. The dollar has been strong and growing due to a variety of factors. One has been the Federal Reserve’s support of an eventual increase in rates, as countries around the world further seek to decrease their rates and increase the levels of quantitative easing (QE) by trying to pump money into their economies to support growth. The United States, though no enemy of QE and spending in the past, has so far avoided any more QE recently. This, coupled with a not terrible economy, makes the US a bright spot amongst the world’s economies though many in the US do not have much confidence in our economy.
The strong dollar is hurting some US companies, with the largest multinationals obtaining 30-40% of their revenues from outside the United States. As the price of the USD rises, every item they sell overseas brings in less equivalent money back home. It also makes the goods the US produce more expensive to overseas buyers and this hurts many US exporters. This can be seen across the board in a variety of industries from car makers to cigarette manufacturers.
Tensions Rising in the Middle East
Yemen is in the midst of a civil war with Saudi Arabia leading an attack against rebels that have opposed the Saudi and US backed president who fled the country last month. Iran is seen to be backing the rebels with supplies and has sent some of its naval ships to the region to protect against “piracy.” This is interesting in light of the recent nuclear agreement between Iran and a coalition of governments including the United States.
What is more interesting are the religious differences playing out in the Middle East. Iran is a Shia Muslim country and Saudi Arabia is a Sunni Muslim country. The former leadership in Yemen is Sunni and the rebels are Shia. We are supporting the Sunni government and are allied with other Sunni governments. The two largest terrorist groups attacking the United States are Sunni, both Al Queda and ISIS/ISIL, with Al Queda having many roots and financial backing from Saudi Arabia. I am not sure how or why this dynamic is playing out but it is interesting to note.
US alliances aside, if the United States gets wrapped up in a conflict between the two states, it could be disastrous for the US and a good thing for countries like China and Russia, who stay at an arm’s length or greater distance from the fighting, and avoid unnecessary expenditures and repercussions as a result. This doesn’t really seem to be having an impact on the markets or the economy yet, except to give pause to new market highs.
Low Oil Here to Stay?
It will be hard for oil prices to increase dramatically without some out-sized economic event occurring. Supplies are increasing and this has caused oil to further fall, close to its recent January low. As technology increases and capacity has increased, it has become easier and easier to drill for and obtain oil than ever previously.
The low prices of oil have translated into low prices at the gas pump and savings for those who buy gas. Many of the savings average Americans have gained from the decreases in gas prices have gone to increased savings and paying off debt. This is universally a good thing for the future of Americans in general, to be less in debt and saving more, but has not helped any companies trying to get Americans to spend more to buy things they don’t need (consumer discretionary spending). As the future of these low oil prices sets in, Americans should begin to take more of these savings from lower gas prices and slowly spend more as their debts are paid off and their savings accounts are boosted. This should help the economy over the next few years.
Local Economy Improving
Consumer discretionary spending does seem to be ticking up, at least in the Raleigh Triangle area. I have had conversations with a few regional and national business owners that see increased demand from goods tied to homebuilding and repairs and consumer discretionary spending on golf related items, amongst other industries. Conversations with homebuilders are also more positive than in years past with many seeing very strong years last year and improvements this year as well. In general, most business owners are cautiously optimistic about the near future. These might not be strong market indicators but they are positive economic signs.
Increased Economic Optimism
2015 is on track for the second-best year ever in Mergers & Acquisitions, with $3.7 trillion in deal flow. This is a definite positive sign for the economy. More deals are occurring where companies, buoyed by strong cash reserves, low interest rates and positive economic outlook, are buying other companies at a faster pace. Some who are close to the space seem to think that these deals might be overvalued, especially in the medical and technology space.
A note about the report:
For as long as I remember, I have been fascinated by the economy and stock markets. Nearly my entire life has been spent striving to interpret both. I have my Bachelor of Arts in Economics, but have found the cold, hard experience of working on a trading floor and with my clients has been a far better teacher. In putting pen to paper I hope to inform others about where I see the economy and the market. Perhaps also some insight into where they are headed. This is not financial advice. Enjoy.
Our Source Material:
Barron’s Vol. XCV No. 13 – March 30, 2015
Barron’s Vol. XCV No. 14 – April 6, 2015
The Wall Street Journal Vol. CCLXV No. 79 – April 2, 2015
The Wall Street Journal Vol. CCLXV No. 82 – April 5, 2015