For a PDF version of the below commentary please click here weekly-letter-9-26-2016

Commentary quick take:

 

  • Major developments:
    • No change from the FOMC meeting
    • Small changes from the BOJ meeting

 

  • US Fed:
    • The dissenting votes at the September meeting
    • Chair Yellen’s press conference held some interesting information
    • Odds of December rate hike slipped below 50 percent
    • Still seems to be data dependent

 

  • Bank of Japan:
    • No change in interest rate
    • Will start targeting a zero yield on the 10-year JGB
    • Did not increase asset purchase program

 

  • Europe:
    • Italian banks still looking weak
    • Deutsche Bank latest bank in trouble

 

  • Technical market view:
    • NASDAQ broke out of trading range to the upside
    • Dow and S&P 500 both briefly moved into their respective trading ranges
    • VIX continued to slide lower

 

  • Hybrid investments strategy update:
    • Remains defensively positioned
    • Made a few changes to the underlying holdings last week
    • Cash remains on the sidelines waiting for a good opportunity

 

  • This week for the markets:
    • Presidential debate #1
    • OPEC Algiers meeting

 

  • Interesting Fact: Rising Campaign Costs

 

 

Major theme of the markets last week: No change at the FOMC meeting, but can this continue?

funny-9-26-16

Last week the focus of the financial markets both here and abroad was the FOMC meeting that took place on Tuesday and Wednesday, ultimately ending with no rate hike by the US Federal Reserve. After conflicting statements from Fed officials over the previous few weeks, there was little chance of an actual rate hike at the meeting, but it seems the odds may have been a little low after the vote count was revealed. The markets seemed to take the announcement in stride on Wednesday and reacted more during the press conference than during the actual release of the statement. It appears Chair Yellen would still like to move on raising the Fed Funds rate at some point during 2016, but she has boxed herself into a very tight corner as there is really only one meeting left at which the Fed can realistically increase the rate. For the time being, Chair Yellen does not appear to be concerned about what some economists and investors are pointing out as an asset bubble, as she appears to be standing firm on the need to increase rates.

US news impacting the financial markets:

 

All the media hype last week was about the Fed meeting and the potential for a rate hike at the meeting. In the end, the Fed decided against increasing the rate at the September meeting. However, some of the data released revealed a growing fracture within the FOMC as to the timing of a rate increase. There were three dissenting votes at this latest meeting from Federal Reserve Bank of Kansas City President Esther George, Federal Reserve Bank of Cleveland President Loretta Mester and Federal Reserve Bank of Boston President Eric Rosengren, who voted no on holding rates steady, preferring to immediately raise them by a quarter-percentage point. This was the first time since December of 2014 that there were three votes against what was ultimately done by the Fed. Esther George was an expected dissent as she has dissented in each of the previous four meetings. The votes by both Loretta Mester and Eric Rosengren, however, were surprising, but less surprising than they would have been two weeks ago as both came out very hawkish in the media in the weeks leading up to the latest meeting. With dissent building within the Fed, are we more likely to see a rate hike at either of the next two meetings before the end of the year?

fed-watch-9-26-16

According to the table to the right from the CME group’s Fed Watch webpage, the odds of a rate hike at each of the next four meetings actually declined after the events of last week.  The odds of a rate hike by the end of the year slipped back below 50 percent after the Press conference held by Chair Yellen on Wednesday. It seems that despite several mentions during the conference of wanting to increase rates, Chair Yellen had enough in the speech and in the Q&A to make traders think she will likely hold off on increasing rates this year. One of the lines in her press conference that is commonly quoted is, “We judged that the case for an increase has strengthened, but decided for the time being to wait for further evidence of continued progress toward our objectives.” Two words “further” and “evidence” are very subjective and opens the door to waiting longer than expected. At least, that is what many traders took away from the sentence. Once again, you may be wondering why there is such a low chance of a rate hike in November. It is because of the Presidential election. This question was brought up to Chair Yellen in the Q&A and she answered it by saying, “I can say emphatically that partisan politics plays no role in our decisions about the appropriate stance of monetary policy. We are trying to decide what the best policy is to foster price stability and maximum employment and to manage the variety of risks that we see as affecting the outlook. We do not discuss politics at our meetings and we do not take politics into account in our decisions.” The markets obviously did not believe her denial of political motivations, as is clearly evident by the Fed watch table.

 

Now that the September meeting of the Fed is behind us, the US financial markets will likely briefly turn toward US politics as the first of the Presidential debates is held this evening. We are starting to move into the time of year that politics could start to be seen in financial market movements, but currently the race is too close to call either way and thus the markets appear to be largely ignoring what is going on along the campaign trail. Construction is one of the sectors that has the most to gain from this election cycle as infrastructure spending will likely be a hit topic of debate over the next few weeks. Pharmaceuticals and banks will likely remain the targets of much dissent in the election cycle as they are easy targets that a large number of voters on both sides of the aisle can dislike. If the race for the Presidency remains as tight as it is currently we could see more and more volatile trading leading up to Election Day, both in the US markets and in the foreign markets.

 

Global news impacting the markets:

 

Global news last week focused on two different areas of the world, the first being Japan and the second being Europe. The Bank of Japan (BOJ) held its monthly meeting at the same time as the US Fed, but released its plans a few hours ahead of the US Fed announcement. The BOJ kept its policy interest rate at -0.1 percent, as expected, and made a few small changes to how it will continue to go about purchasing Japanese Government Bond (JGBs). One interesting aspect to its bond buying is that it is now targeting a zero percent yield on the 10-year JGB, which means it could be buying on either side of the 10-year notes, depending on what the yield on the 10-year JGB currently is priced at. Previously, it had been stuck buying a certain percentage of each of the JGBs, regardless of yield. Now it will shift and target a yield. Many traders had been hoping for an increase in bond and asset buying by the BOJ, but that was not done at this meeting. The BOJ seems to be making small tweaks to existing programs in the hopes of finding a combination that will actually work at getting the Japanese economy onto more sure footing, but so far it has failed to find that magic formula for economic growth that has eluded Japan for so many years.

 

Europe also made headlines last week as the financial system in Europe is once again being called into question. Italian banks are squarely in the spot light and look to be already starting to crumble. Non-performing loans are the crux of the problem in the Italian banking system as there are many loans that fall into this category and, in total, the problem is far more than the banks can deal with themselves. That leaves some of the oldest banks in Italy ultimately needing to rely on the help of others either in the form of a bailout, a bail-in or some other kind of rescue package. The banking troubles in Europe are not found solely in Italy, however, as Germany’s Deutsche Bank has moved to center stage in the debate as the US Department of Justice is demanding payment of some $14 billion to settle allegations of not correctly selling mortgage assets during the great recession. The problem for Deutsche Bank is that its total market cap as of Friday afternoon was just a little over $18 billion, which means the fine by the US DOJ would essentially wipe out the company. There are rumors circulating that the bank has asked the government of Germany to get involved with Washington DC and that the government politely said “No” to the inquiry. All of this continues to show that while several layers of band-aids have been applied to the situation in Europe over the past several years, the structural problems still exist and nothing has been done to try to fix them. The ECB is just about tapped out in terms of how much it can help and the political situation in many European countries seems to be leaning much further to the right. The current situation in Europe is likely to get worse before it gets better and it will only get better if the government and financial system stands up and actually makes some difficult decisions rather than just kicking the can down the road as has been done in the past.

 

Technical market review:

 

Just as soon as volatility made a comeback, it faded to very low levels. Much of the increase in volatility was due to uncertainty over the actions of the Fed, which dissipated quickly on Wednesday with the release of its September meeting statement. The blue lines represent the closest level of support for each of the indexes, established by points the markets have touched in the past prior to bouncing higher. The red lines on the three major indexes have been redrawn this week as the closest level of resistance for each of the indexes based on their recent highs. For the VIX, the red line remains the rolling 52-week average level of the VIX.

4-charts-combined-9-26-16

Technical indicators turned positive last week, thanks to gains of more than one and a half percent between Wednesday and Thursday last week as investors seemed to cheer the punch bowl being left at the party by the Fed. The NASDAQ (lower left pane above) is clearly the best of the three major indexes in terms of technical strength as the index managed to break above its most recent level of resistance and then ended the week by moving lower, but still remaining above the resistance level. Both the S&P 500 (upper left pane above) and the Dow (upper right pane above) are tied in terms of basic technical strength as both indexes moved back into their respective trading ranges with the gains on Wednesday and Thursday, but both fell back down below the trading ranges with the downward movement seen on Friday. While the markets were moving higher during the week, the VIX was moving lower, as you might expect, as it came crashing back down to the level it was trading at prior to concerns over a potential rate hike that surfaced two weeks ago. The weekly move in the VIX of -20 percent seemed like a bit of an overreaction given the relatively small weekly move that was seen in the equity markets, but given the news out of the US Fed and the BOJ on the same day, there seemed to be a lot of worry taken out of the markets.

 

Market Statistics:

 

All three of the major US indexes advanced last week after the announcement of no change to the Fed policy at the conclusion of the September meeting.

 

Index Change Volume
S&P 500 1.19% Below Average
NASDAQ 1.17% Average
Dow 0.76% Below Average

 

Volume was below average on the two major indexes as the first two trading days on the week saw very low volume ahead of the Fed decision. Despite Twitter not being a component stock of the NASDAQ, the announcement of potential buyout offers for Twitter from several suitors sparked several technology companies to see much higher volume than normal, boosting the overall volume on the NASDAQ up to the average levels of the past year. With the Fed meeting now behind us it appears that the global financial markets will have to turn to other areas of the world for reasons to move. This will likely lead to lower than average volume for the next couple of weeks, as we move into October.

 

When looking at sectors, the following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change   Bottom 5 Sectors Change
Residential Real Estate 4.93%   Broker Dealers 0.75%
Materials 3.61%   Natural Resources 0.73%
Utilities 3.43%   Semiconductors 0.34%
Telecommunications 2.95%   Energy 0.16%
Industrials 2.75%   Oil & Gas Exploration -0.05%

 

Last week was an interesting mix of sectors for the top performance as the more interest rate sensitive areas of the market seemed to do the best as rates were left unchanged. Real Estate, Utilities and Telecommunications are three of the more interest rate sensitive sectors and they all had a great week. Materials and Industrials seemed to move more on the movement of metals last week than on the interest rate decision, but the movement was still enough to land in two of the top five sectors. On the negative side of performance last week, only Oil and Gas Exploration turned in negative performance for the week as the other four lowest performing sectors all managed to post gains for the week. There was no clear correlation between the four and any single specific announcements last week for why those sectors would lag the overall markets.

 

Fixed income investments last week here in the US were positive. The entire yield curve moved upward after the conclusion of the Fed meeting on Wednesday:

 

Fixed Income Change
Long (20+ years) 1.54%
Middle (7-10 years) 0.49%
Short (less than 1 year) 0.05%
TIPS 1.10%

Global currency trading volume was average last week as traders adjusted to the announcements from the Fed and the BOJ. Overall, the US dollar decreased by 0.60 percent against a basket of foreign currencies. The strongest of the major global currencies last week was the Australian Dollar as it advanced by 1.69 percent against the value of the US dollar. The worst performance of the global currencies was the British Pound for the second week in a row, as it declined by 0.36 percent against the value of the US dollar as there are continued uncertainties over the aftermath of the Brexit vote.

Commodities were mixed last week as most soft commodities moved lower, while metals and oil pushed higher:

Metals Change   Commodities Change
Gold 2.07%   Oil 1.90%
Silver 4.59%   Livestock -1.59%
Copper 2.08%   Grains -0.71%
      Agriculture 0.69%

The overall Goldman Sachs Commodity Index advanced 0.85 percent last week, with the major metals being the primary driver of the performance as Gold increased 2.07 percent and Silver advanced by 4.59 percent. Copper finally moved in the same direction as Gold and Silver as it gained 2.08 percent for the week. Oil moved higher by 1.9 percent last week ahead of an OPEC meeting in Algiers this week. Soft commodities were mixed last week with Agriculture overall gaining 0.69 percent, while Livestock declined 1.59 percent (the second week in a row of a more than 1 percent decline) and Grains went down 0.71 percent over the course of the week.

Top 2 Indexes Country Change   Bottom 2 Indexes Country Change
BIST 100 Turkey 4.91%   CASE 30 Egypt -0.82%
Caracas General Venezuela 4.85%   KSE 100 Pakistan -1.44%

Last week was a good week for the global financial markets as 95 percent of all the markets around the world turned in positive results for the week. The best performing index last week was found in Turkey and was the BIST 100 index, which turned in a 4.91 percent gain for the week. The worst performing index for the week was found in Pakistan and was the KSE 100 Index, which turned in a loss of 1.44 percent.

Three weeks ago the VIX gained more than 45 percent. This gain was short lived as the VIX declined by 12 percent two weeks ago and more than 20 percent last week, essentially moving the VIX right back down to where it started the month of September. This is not unusual movement for the fear gauge, especially when there is so much riding on the actions of central bankers in such a short period of time. The current reading of 12.29 implies that a move of 3.55 percent is likely to occur over the next 30 days. The direction of the move over the next 30 days is unknown. Last week was the fifth double digit weekly move in a row that we have seen in the VIX. This followed a time of unusual stability during which there were six weeks in a row where the VIX moved by less than 6 percent in either direction on a weekly basis.

For the trading week ending on 9/23/2016, returns in the hybrid hypothetical models* (net of a 1% annual management fee) were as follows:

  Last Week 2016 YTD Since 6/30/2015
Aggressive Model 1.24 % 2.51 % 6.92 %
Aggressive Benchmark 1.47 % 4.74 % -0.59 %
Growth Model 1.00 % 2.85 % 6.29 %
Growth Benchmark 1.14 % 3.83 % -0.20 %
Moderate Model 0.69 % 3.08 % 5.90 %
Moderate Benchmark 0.82 % 2.86 % 0.07 %
Income Model 0.55 % 3.46 % 6.18 %
Income Benchmark 0.41 % 1.58 % 0.27 %
S&P 500 1.20 % 5.91 % 4.92 %

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

There were three changes in the hybrid model over the course of the previous week. The first was to sell the position on S&P 500 low volatility ETF (SPLV) and the second was to sell the position in Schwab US Dividend ETF (SCHD). Both positions were sold because they had started to correlate very highly with the individual stock holdings within each of the models and thus they were adding risk without providing any measureable diversification benefits. The proceeds from the sales are currently in cash and will be allocated when the time is correct. The third change last week was in the small cap holdings in the models, which were adjusted last week. In the aggressive model the small cap holding was moved from a 2 times leveraged mutual fund down to an unleveraged fund and the 1.5 times leveraged mutual fund used in the growth model was also taken down to an unleveraged small cap mutual fund. This was done primarily to lower the overall risk being taken in both the aggressive and the growth hybrid models.

 

Finding investments to purchase is currently difficult because of the lofty valuations of much of the stock market. There is almost nothing that is classically cheap at current prices and the few items that are cheap are that way for a very good reason. While the markets can continue to climb the proverbial wall of worry, it is becoming more and more clear that the markets are due for a correction. It is on a correction that I would prefer to make significant new purchases, looking currently toward healthcare and biotechnology for potential purchases.

 

Economic Release Calendar:

 

Last week all eyes were on the Fed meeting, but there were three other economic news releases that came out related to the US housing market. There were no releases that significantly beat or missed market expectations last week:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Neutral 9/20/2016 Housing Starts August 2016 1142K 1186K
Neutral 9/20/2016 Building Permits August 2016 1139K 1160K
Neutral 9/21/2016 FOMC Rate Decision September 2016 0.375% 0.38%
Neutral 9/22/2016 Existing Home Sales August 2016 5.33M 5.5M

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

Last week the economic news releases started on Tuesday with the release of housing starts and building permits for the month of August, both of which came in slightly lower than expected but close enough to not cause concern. On Wednesday, as discussed at length above in the national news section, the September FOMC meeting concluded with the Fed funds rate being unchanged. On Thursday the final economic news release of the week was released, that being the existing home sales figure for the month of August, which came in at 5.33 million units sold during the month, slightly lower than expected, but still well above the psychological level of 5 million units. In aggregate, the housing data that was released last week indicated that the US housing market, while still advancing, is doing so at a slower pace than it was at this time last year.

 

This week is a busy week for economic news releases as there are several releases that could factor into the Fed’s thinking going forward. The releases that could impact the markets are highlighted in green below:

 

Date Release Release Range Market Expectation
9/26/2016 New Home Sales August 2016 585K
9/27/2016 Case-Shiller 20-city Index July 2016 5.10%
9/27/2016 Consumer Confidence September 2016 98
9/28/2016 Durable Orders August 2016 -1.90%
9/28/2016 Durable Orders, Ex-Transportation August 2016 -0.40%
9/29/2016 GDP – Third Estimate Q2 2016 1.30%
9/30/2016 Personal Income August 2016 0.20%
9/30/2016 Personal Spending August 2016 0.20%
9/30/2016 Core PCE Prices August 2016 0.20%
9/30/2016 Chicago PMI September 2016 52
9/30/2016 University of Michigan Consumer Sentiment September 2016 90

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

This week the economic news releases start on Monday with the release of the final US housing piece of information for the month of August; the new home sales figure is expected to come in at a lackluster 585,000 units. On Tuesday, consumer confidence for the month of September is set to be released with expectations of a slight decrease over the level seen in August. Wednesday will have two important releases released with durable goods orders, both including and excluding transportation. Both ways of calculating durable goods are expected to post declines for the month of August, which would be negative for the overall health of the US economy, but we could be in for an upside surprise in these figures. On Thursday the third estimate of second quarter 2016 GDP is set to be released with expectations of a small revision upward from 1.1 up to 1.3 percent. Both of these figures are painfully low for an economy as robust as the US. We could see a large market reaction either positive or negative if the release misses expectation. On Friday, personal income and spending as well as the Core PCE price changes for the month of August will all be released with each release potentially impacting the Fed’s calculations going forward as to the timing of the next rate hike. Wrapping up the week this week on Friday will be the University of Michigan’s Consumer Sentiment index for the month of September (final), which is expected to be unchanged over the middle of September reading. In addition to the economic news releases this week the markets will also have to contend with a slew of more than 14 speeches by Fed officials, including Chair Yellen and several other key members of the FOMC. These will likely drive market performance more so than the scheduled economic news releases.

 

Interesting Fact — Rising Campaign Costs

 

According to The Economist, it is estimated that the 2016 presidential election will cost $5 billion in total, more than double the cost of the 2012 election.

 

Source: http://www.economist.com

For a PDF version of the below commentary please click here weekly-letter-9-19-2016

Commentary quick take:

 

  • Major developments:
    • Central Bankers moved the market once again
    • Fed Governor Lael Brainard soothed the markets
    • Waiting and guessing about the Fed’s next meeting

 

  • US Fed:
    • Dovish Lael Brainard tried to downplay a rate hike on Monday
    • Odds of a September rate hike decreased over the week
    • Data impacting whether the Fed should raise rates or not is mixed

 

  • Market statistics:
    • Global markets were mainly lower last week
    • Volume was above average here in the US

 

  • Other Central Banks:
    • Swiss National Bank held rates steady
    • Bank of England made no policy changes
    • All eyes on the US Fed September meeting

 

  • Technical market view:
    • NASDAQ recovered and moved back into its trading range
    • Dow and S&P 500 look technically negative
    • VIX declined back to below the 52-week average level

 

  • Hybrid investments strategy update:
    • Remains defensively positioned
    • Increased hedging positions

 

  • This week for the markets:
    • September rate meeting

 

  • Interesting Fact: Where have interest rates been in the past?

 

 

Major theme of the markets last week: FOMC rate decision is here once again.

rate-decision

The September meeting of the FOMC has been marked down on many traders’ and individual investors’ calendars for a long time as it is one of the four meetings in 2016 that has a scheduled press conference with Fed Chair Yellen directly following the meeting. With the rough start to 2016, due to falling oil and earnings, the March meeting (first of 2016 with a scheduled press conference following) was off the table in terms of a rate hike, well in advance of the meeting being held.  The June meeting was the next meeting with a press conference to follow, but weak labor data combined with uncertainty over the looming Brexit vote negated much of the odds of a rate hike prior to that meeting. September is now upon us and it is the third FOMC meeting of 2016 that has a press conference following the release of the rate decision. Many investors around the world will be watching the odds of a rate hike closely, as they have been for the past several weeks, hoping to glean some sort of information about what the Fed is thinking going forward. This thought about the Fed meeting consumed almost all of the financial media last week. This was the primary theme throughout the week as Fed officials got their last words in and made sure the information they were releasing to the media was perfect Fed speech, which in aggregate gave little insight into what the group as a whole would actually do at the September meeting.

US news impacting the financial markets:

 

Fed speculation comprised the majority of the US news that impacted the overall markets last week. We entered the week after a significant downdraft in the markets on Friday, September 2nd. The downdraft in the markets two weeks ago was due to a Fed official that is typically dovish changing his tune and presenting a hawkish view on interest rates. This change spooked the markets and immediately increased the odds of a rate hike. This fear was somewhat soothed on Monday last week when Fed Governor Lael Brainard gave a last minute speech that was dovish. In fact, her speech was about as close as possible to the opposite of what Eric Rosengren had given at the end of the previous week. This is classic mixed messaging by the Fed, which has been employed for years when the Fed doesn’t want the markets to get too comfortable with what they assume the Fed is thinking. Lael Brainard was the final Fed Governor to give a speech ahead of the September meeting as the Fed has now entered into essentially an unwritten “quiet period” ahead of the meeting, which is held on Tuesday and Wednesday of this week. So with the final message being dovish, it was understandable that the odds of a rate hike at each of the next four meetings have been lowered, as depicted by the table to the right. As you can see, odds do not surpass 50 percent until the December meeting, the last chance for the Fed to get a rate hike in during 2016. With the Fed’s obvious desire to raise rates at least once during 2016, it seems the 55 percent odds may be actually be a little low for that meeting. November may look low to most readers at first glance, but you have to remember that the Fed does not want to appear political and with the November meeting of the FOMC being held just a few weeks ahead of the Presidential election day, they will likely hold off on taking any action at that meeting. So what is the Fed thinking?

fed-watch-9-19-16

The Fed has a dual mandate of full employment and price stability, and it takes monetary actions to try to balance both of those mandates as best as it can. Adjusting the Fed funds rate is its primary course of action as this rate flows through to lending rates and various other rates in the US banking system. Lowering rates stimulates growth in the economy and raising rates is employed to keep the economy from overheating. Currently, the US economy is growing at a very slow pace, with some sectors of the economy doing very well, while others are having a difficult time. Energy, and oil and gas specifically, has been one of the primary drivers of uncertainty and job losses over the past several quarters as the price of oil coming down by a large amount adversely affected the entire industry. Even with the trouble from the oil patch in the US, our employment situation has improved greatly from the very high levels of unemployment seen in early 2009. While some of the jobs may be part time and may pay less than would be desired by many economists, people are gainfully employed in larger numbers than they had been in the Great Recession. We also have a large number of people retiring, which is lowering the overall labor force participation rate, something the Fed watches closely. At this point, the employment side of the Fed’s dual mandate looks good, but not strong.

 

Price stability will be the problem area for the Fed as it is more difficult to fulfill at these very low interest rates. The Fed has a target rate of two percent inflation, a rate the US economy has not produced in more than 18 months with any consistency. With the lower than expected reading in retail sales last week combined with very slow wage growth and spending at the consumer level it looks as if this bout of low inflation is here to stay for a while longer. The problem for the Fed is that it can make money as cheap as possible for consumers, but cannot force consumers to actually spend the cheap money. If the Fed decides not to increase rates at the meeting this week, it will likely cite the lack of inflation in the US economy as one of its primary reasons for not increasing rates. It is hard to argue that the Fed is misreading this data as even looking at core prices in a wide variety of ways it is difficult to see price inflation currently in the US economy. No matter what the Fed does on Wednesday, it will also likely punt the problem back to members of Congress to do more to shore up the growth that we have been seeing in the US economy, as the Fed only has so many tools at its disposal and Congress can take more broad actions that could positively impact the economy. We have seen central bankers call for politicians to do more in Europe, Japan and China and it seems logical that the Fed would join this group calling for action.

 

Global news impacting the markets:

 

There was very little global news of consequence for the financial markets last week as everyone around the world is waiting for the US Fed to act. There were two central bank rate meetings last week, one held by the Bank of England and the other by the Swiss National Bank, both of which decided to not change interest rates from their current levels. The final story in the global media last week was that retail sales for the month of August were slightly higher than anticipated in China, which is a positive sign for an economy that has been trying to cope with much slower growth in the current year than it has seen in the last decade. With the positive developments in China, however, there is an underlying fear that the shadow banking system and large amount of leverage in the Chinese debt markets could present a major problem going forward for the country. Only time will tell how this bubble will play out, but it could have far reaching global impacts if the government in China allows it to pop.

 

Technical market review:

 

Volatility looks like it is back in earnest in the US markets after the large movements in the markets seen over the past two weeks. The blue lines represent the closest level of support for each of the indexes, established by points the markets have touched in the past prior to bouncing higher. The red lines on the three major indexes have been redrawn this week as the closest level of resistance for each of the indexes based on their recent highs. For the VIX, the red line remains the rolling 52-week average level of the VIX. All of the charts this week have had the time charted adjusted to start at the end of 2015 in order to more clearly show the relevant movements of the markets.

4-charts-combined-9-19-16

The technical movements of the markets last week were interesting. We started the week well below the various levels of support after having broken down below them on Friday, September 2nd. We essentially saw a dead cat bounce on Monday with the market gaining back a little more than half of what was lost on Friday. Tuesday saw another leg down, only to be followed by up and down movement in the markets on Thursday and Friday. To say last week was a choppy trading week is an understatement. In terms of basic technical strength, the NASDAQ (lower left pane above) is the strongest of the three major indexes as it managed to break back into its trading range and ended the week near the top of the range. Remember, however, that the recovery on the NASDAQ over the past several months has been weaker than the other two indexes and that much of the movement in the NASDAQ last week can be attributed to movement in the price of Apple stock. The Dow (upper right pane above) and the S&P 500 (upper left pane above) are equally weak in terms of basic technical strength and both have exhibited signs of potential further weakness in the near term as they failed to make it back into their most recent trading range. All of the movement in the equity markets can be easily summed up by taking a look at the VIX (lower right pane above) and the wild movements that were seen in the fear gauge last week. We saw reversals of direction pretty much every day last week and the movements were much larger than we have seen over the past several months. Welcome to September trading, as this tends to be the most volatile month of the year for the equity markets.

 

Market Statistics:

 

After starting September on a notable downward move two weeks ago, the markets traded in a volatile range last week with two of the three major US indexes closing near where they opened.

 

Index Change Volume
NASDAQ 2.31% Above Average
S&P 500 0.53% Above Average
Dow 0.21% Above Average

 

Volume finally picked up last week. It was the first week since the end of June that each of the three major indexes saw above average trading volume. Some of this had to do with technical market timers trying to take advantage of any potential rebounds to the nearly 400 point decline seen on Friday, September 9th. Another potential large part of the increased volume that we saw last week was investors repositioning for the September FOMC meeting that takes place this week, concluding on Wednesday with the announcement of the rate decision. The deviation between the NSADAQ and the other two major US indexes was almost entirely due to the performance of Apple, which gained more than seven and a half percent on the positive rollout of the new iPhone 7 and the newly redesigned Apple watch, both of which were released on September 7th.

 

When looking at sectors, the following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change Bottom 5 Sectors Change
Biotechnology 4.67% International Real Estate -1.93%
Semiconductors 4.24% Financials -2.25%
Pharmaceuticals 3.99% Natural Resources -2.45%
Technology 3.17% Oil & Gas Exploration -2.93%
Utilities 2.30% Energy -3.49%

Four of the top five performing sectors are sectors that you would expect to see in the best performing list during a risk on trading week, while one certainly is not. Biotechnology, Semiconductors, Pharmaceuticals and the broad Technology sector are all risk on sectors that perform well when the overall markets are moving higher. Utilities is the odd sector out in the list as this is one of the most defensive sectors of the markets and also one of the sectors that is the most at risk in a rising interest rate environment.  One possible reason for Utilities being in the mix of best performing sectors could be that with the lowering odds of a rate hike at the September meeting investors moved back into the sector of the market that has the highest yield, essentially using the sector as a bond proxy. On the negative side of performance last week, it was not surprising to see that any sector remotely related to oil declined as oil itself declined for the week. Financials made it into fourth position on the list, mostly due to uncertainty over the upcoming FOMC meeting, while International Real Estate seemed to move lower because of the rising US dollar as fears renewed about the future global growth rate.

Fixed income investments last week here in the US were mixed as the long end of the yield curve increased and the shorter end decreased slightly as investors prepared for the September rate FOMC meeting:

Fixed Income Change
Long (20+ years) -0.57%
Middle (7-10 years) 0.08%
Short (less than 1 year) 0.01%
TIPS -0.11%

Global currency trading volume was average last week, as the majority of the global markets were open for the first full trading week of September. Overall, the US dollar increased by 0.77 percent against a basket of foreign currencies. The strongest of the major global currencies last week was the Chinese Yuan as it advanced by 1.81 percent against the value of the US dollar. The worst performance of the global currencies was the British Pound, which declined by 1.97 percent against the value of the US dollar as more talks about the looming Brexit seemed to hamper the local currency.

Commodities were mixed last week as Copper managed to turn in a strong week as all of the other commodities moved lower:

Metals Change Commodities Change
Gold -1.33% Oil -5.57%
Silver -1.38% Livestock -1.46%
Copper 3.59% Grains -0.96%
Agriculture -0.05%

The overall Goldman Sachs Commodity Index declined 1.8 percent last week, with Oil being the primary driver, falling 5.57 percent as OPEC looks to be losing more and more control of the global oil market. The major metals were mixed last week with Gold falling 1.33 percent and Silver declining by 1.38 percent. Copper went in the opposite direction, moving higher by 3.59 percent. Soft commodities all moved lower last week with Agriculture overall falling 0.05 percent, while Livestock declined 1.46 percent and Grains went down 0.96 percent over the course of the week.

Top 2 Indexes Country Change Bottom 2 Indexes Country Change
SET Thailand 2.34% PSI 20 Portugal -4.83%
OMX Copenhagen Denmark 1.29% FTSE MIB Italy -5.62%

As expected last week, the global markets had a difficult week following the large decline seen in the US on September 2nd.  There were only 6 indexes globally that turned in positive performance last week, including the three major US indexes. The best performing index last week was found in Thailand and was the SET index, which turned in a 2.34 percent gain for the week. The worst performing index for the week was found in Italy and was the FTSE MIIB Index, which turned in a loss of 5.62 percent. Much of the decline in Italy was once again due to the Italian banks being some of the weakest banks globally and looking like they will once again be in need of financial assistance to remain viable.

After gaining more than 45 percent two weeks ago, it was not surprising to see that the VIX moved lower last week by more than 12 percent. Typically, volatility as measured by the VIX overreacts to market movements, especially when the movements are large. So when the VIX increased by more than 45 percent two weeks ago, barring another major leg downward in the markets it had likely overreacted, which was proven last week as the VIX moved lower over the course of the week. The current reading of 15.37 implies that a move of 4.44 percent is likely to occur over the next 30 days. The direction of the move over the next 30 days is unknown. Last week was the fourth double digit weekly move in the VIX that we have seen in a row. This followed a time of unusual stability during which there were six weeks in a row where the VIX moved by less than 6 percent in either direction on a weekly basis.

For the trading week ending on 9/16/2016, returns in the hybrid hypothetical models* (net of a 1% annual management fee) were as follows:

Last Week 2016 YTD Since 6/30/2015
Aggressive Model 0.28 % 0.84 % 5.17 %
Aggressive Benchmark -0.81 % 2.75 % -2.48 %
Growth Model 0.18 % 1.53 % 4.91 %
Growth Benchmark -0.62 % 2.29 % -1.68 %
Moderate Model 0.11 % 2.19 % 4.98 %
Moderate Benchmark -0.44 % 1.77 % -0.99 %
Income Model 0.10 % 2.76 % 5.45 %
Income Benchmark -0.22 % 1.04 % -0.26 %
S&P 500 0.53 % 4.66 % 3.69 %

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

There was a change in the hybrid models last week and that was to increase the hedging (inverse) positions in each of the models. This was done on Monday when the markets bounced back higher following the large decline the previous trading day. The models still remain defensively positioned, but not as defensive as they could become if the market continues to deteriorate. If we continue to see the market chopping in a sideways fashion, the models are set up to perform relatively well as they attempt to protect from some of the downside of the markets, while at the same time participating in some of the upward movements as well. One factor to remember in the hybrid models is that we are currently at a time when companies adjust their expectations for the third quarter results if they are going to do so. These revisions can be either positive or negative. Positive or negative adjustments to expectations typically push the underlying stock higher or lower as investors and analysts alike have to adjust the models and their positions all at the same time, which can lead to heightened volatility in the individual stocks.

 

Economic Release Calendar:

 

Last week the number of economic news releases was typical for summer with several key releases coming in below markets expectations. Releases that missed market expectations to the downside are highlighted in red below, while those that beat market expectations are highlighted in green:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Negative 9/15/2016 Retail Sales August 2016 -0.30% -0.10%
Negative 9/15/2016 Retail Sales ex-auto August 2016 -0.10% 0.30%
Neutral 9/15/2016 PPI August 2016 0.00% 0.10%
Neutral 9/15/2016 Core PPI August 2016 0.10% 0.10%
Positive 9/15/2016 Philadelphia Fed September 2016 12.8 0
Negative 9/15/2016 Empire Manufacturing September 2016 -2 0
Neutral 9/16/2016 CPI August 2016 0.20% 0.10%
Neutral 9/16/2016 Core CPI August 2016 0.30% 0.20%
Slightly Negative 9/16/2016 University of Michigan Consumer Sentiment Index September 2016 89.8 91.5

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

Last week the significant economic news releases were packed into Thursday and Friday with retail sales kicking things off on Thursday in a negative way. Retail sales for the month of August were released and showed a decline in both overall sales as well as sales excluding autos. Overall sales were expected to post a decline of one tenth of a percent, but actual results came in with a decline of 0.3 percent, while sales excluding autos had been expected to post a gain of three tenths of a percent, but actually posted a decline of one tenth of a percent. Both of these readings signal a weakness in the US economy that has been lingering for the past few years—consumers’ lack of willingness to spend money. The producer price index (PPI) was also released on Thursday and came in showing an overall reading of zero, while Core PPI registered a 0.1 percent reading. Both of these figures are significantly below the inflation level that the Fed would like to see, which currently remains at 2 percent. The final two releases of the day on Thursday were manufacturing related figures with the Philadelphia Fed index positing a much better than expected reading of 12.8, while expectations had been for a zero reading. However, the positive reading on manufacturing was quickly offset by a negative reading from the Empire Index, which turned in a -2 reading after expectations had been for a zero reading. With both of these indexes posting opposing results, the jury is still out on how September will turn out overall for manufacturing here in the US. This is likely one of the factors that weighed on the FOMC if it decides not to increase rates at the September meeting this week. On Friday last week the consumer price index (CPI) for the month of August was released with the results coming in very close to market expectations as overall CPI and core CPI were higher than expected by one tenth of a percent. Despite the CPI numbers being slightly higher than anticipated, they are still very far away from the Fed 2 percent target rate. Wrapping up the week on Friday last week was the latest reading for the University of Michigan’s Consumer Sentiment Index for the month of September, first estimate, which came in slightly lower than was anticipated. The lower reading of consumer sentiment and lower retail sales readings are likely the main economic releases impacting the Fed’s thinking for the meeting this week.

 

This week holds very few economic news releases in general and only one that has the potential to move the markets, that being the FOMC rate decision on Wednesday. The release that could impact the markets is highlighted in green below:

 

Date Release Release Range Market Expectation
9/20/2016 Housing Starts August 2016 1186K
9/20/2016 Building Permits August 2016 1160K
9/21/2016 FOMC Rate Decision September 2016 0.375%
9/22/2016 Existing Home Sales August 2016 5.5M

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

The economic news releases start on Tuesday this week with the release of the latest housing starts and building permits figure for the month of August, which are expected to both post readings over 1.1 million for the month of August. This data combined with the existing home sales figures for the month of August, which is released on Wednesday, should provide a good glimpse into the health of the US housing market, which plays an integral part in the overall US economy. However, all three of the housing related releases pale in comparison to the potential impact the FOMC rate decision could have on the market when it is released on Wednesday following the two day meeting of the Fed. As mentioned above, the odds of a rate hike by the Fed are very low for this meeting, but with the rhetoric that we have heard over the past several weeks, it seems the market may be artificially placing the odds of a rate hike lower than it should be. While it would be a surprise if the Fed did raise rates at this meeting, it seems the financial markets may breathe a sigh of relief if it decides to wait. A vote to leave rates unchanged, however, could spark concern in the markets as they assess the situation that the Fed sees, which is poor enough to not warrant a rate increase until the December meeting at the earliest. Other than Chair Yellen’s press conference, there are no scheduled speeches by Fed officials in the coming week.

 

Interesting Fact —So much talk about rates…

 

With so many people talking about interest rates recently, I thought it would be interesting to show a chart of the US Fed Funds rate over the longer term for everyone to get a feel for just how low and for how long rates have been down at these levels. The chart below from Trading Economics shows the fed funds rate since 1971.

fed-funds-rates-history-9-19-16

Numerically, the interest rate in the United States averaged 5.86 percent from 1971 until 2016, reaching an all-time high of 20 percent in March of 1980 and a record low of 0.25 percent in December of 2008. It seems almost funny how concerned everyone is about the Fed increasing rates by just one quarter of a percent when looking at how high rates were at one point back in the 1980’s.

Source: http://www.tradingeconomics.com

For a PDF version of the below commentary please click here weekly-letter-9-12-2016

Commentary quick take:

 

  • Major developments:
    • Central Banks moved the market once again
    • Boston Fed President Rosengren pushed markets lower
    • Waiting and guessing about the Fed’s next meeting

 

  • US Fed:
    • Hawkish Rosengren surprised markets
    • Odds of a September rate hike increased
    • More data to come prior to the September meeting

 

  • Market statistics:
    • Global markets were mixed last week
    • Volume was back to average here in the US
    • Oil moved higher on US reserves data

 

  • Other Central Banks:
    • Reserve Bank of Australia made no moves
    • Bank of Canada made no changes
    • ECB made no changes, against market expectations

 

  • Technical market view:
    • Markets broke down on Friday
    • Most technical signals flashed yellow with Friday’s movement
    • VIX gained more than 45 percent for the week

 

  • Hybrid investments strategy update:
    • Remains defensively positioned
    • Consumer goods hurt performance
    • Fundamentals for individual holdings remain good

 

  • This week for the markets:
    • All eyes will be on any new information from the Fed
    • Inflation data could move the markets
    • Politics may start to play a role in the financial markets

 

  • Interesting Fact: $9 trillion and what have we seen?


Major theme of the markets last week: Central Banks—good or bad for the markets?

funny-9-12-16

Last week demonstrated how much of an impact central bankers can have on the global financial markets. The ECB said almost nothing new after its most recent meeting and the markets moved lower because they had been hoping to see more monetary actions.  A US Fed official riled up the global markets by sounding hawkish when he is usually dovish. We also saw the Bank of Japan remain silent for the entire week, comfortably letting the central bank spotlight shine elsewhere for once. Perhaps it is just September or perhaps investors are becoming worried about the health of the current market rally, but the movement we saw on Friday seemed to be about a lot more than just a single Fed official speech. The movement seemed to expose just how much weakness is in the current financial markets and how dependent they have become on the media to drive them higher. Such dependence will likely lead to increased volatility in the near term as we work through what is historically the most volatile month of the year for the US financial markets.

US news impacting the financial markets:

 

The US financial markets enjoyed the shortened holiday trading week until Friday. Last week started with Richmond Fed President Jeffery Lacker saying a rate hike is certainly on the table for discussion at the September meeting. However, Lacker is a permanent hawk within the Fed so the market discredited him, saying he wanted to see a rate hike in September because that is what he has been saying for the better part of two years. The markets continued to trade during the middle of the week with the thought that there was very little chance of a rate hike by the Fed at the September meeting. However, this chance greatly increased on Friday when Boston Fed President Eric Rosengren said that a September rate hike was on the table for discussion. He did not say the rate would be increasing at the September meeting, but he did say in a speech that “If we want to ensure that we remain at full employment, gradual tightening is likely to be appropriate.” This was a major shift in rhetoric as he has historically been one of the more staunch doves on the Fed, always seeming to be in favor of being late to increasing rates over incurring the risks of being too early. The financial markets took this change in opinion very badly on Friday with the Dow falling almost 400 points and both the S&P 500 and the NASDAQ each diving by nearly 2.5 percent. We are in sensitive trading times when a few sentences from a member of the Fed who is not even the chairperson can send the markets so much lower. There are several speeches set for this week by Fed doves and hawks, so if the Fed wants to change its messaging about the chance of a September rate hike, this would be the week to do it.

 

Even taking into account the new stance by Rosengren, the odds of a rate hike at the September meeting remain well under 50 percent, although the odds of a hike by the end of the year did push up closer to the 60 percent level. Remember that the odds of a rate hike at the November meeting are artificially low because the Fed does not want to appear political. Raising rates less than 2 weeks prior to the Presidential election could construe the wrong message about the Fed’s autonomy from the political system in the US. It  still seems like the odds of a rate hike in September are very low and despite members of the Fed seemingly talking up the possibility, a December hike seems much more likely. Playing a potentially central role in the decision are a few more economic data points that will be released this week, including the PPI and CPI figures as well as the retail sales figures, all for the month of August. We also cannot short change the two manufacturing data points released this week, both of which are expected to turn in readings of zero, which would mean no growth and no contraction in each respective region. Both are at a very real risk of turning in negative print, signaling contraction. If we see data that points to weakness in the manufacturing and inflation figures, it seems it would overwhelm the need to raise rates with the need to be more cautious. If this were to occur, the markets would likely recover the losses experienced on Friday.

fed-watch-9-12-16

 

Global news impacting the markets:

 

The global markets last week were primarily focused on several central bank meetings around the world that all produced the same results. The first meeting that was closely watched was held by the Reserve Bank of Australia, which left interest rates unchanged at 1.5 percent. After the meeting, GDP growth for Australia was shown to be very slow with the economy of Australia growing at only 0.5 percent during the second quarter of 2016, slower than the one percent growth achieved during the first quarter of the year. The Bank of Canada (BoC) held the second meeting of the week last week and also left interest rates unchanged at 0.5 percent, as the bank appeared to be waiting to see what the US Fed will do next since so much of Canada’s trade is conducted with the US and any rate change by the US could force Canada to move rates as well. Canada remains in the difficult position of seeing its economy contract, thanks in large part to the volatility in oil and gas as well as the mining sector, which play a very important part in the overall Canadian economy. The third and final major central bank meeting that was closely monitored by the markets last week was that of the European Central Bank (ECB).

 

The ECB meeting was a little bit of a disappointment for investors as they had been expecting big things from the meeting in terms of new actions to try to boost growth in Europe. However, President Mario Draghi chose to not pull out the bazooka the market had been wishing he would. There were no changes to the monetary policy of the ECB during the meeting. In fact, there were no words changed in the September statement when compared to the policy statement released in July, aside from changing the date of the statement. There were a few minor changes outside of the policy statement, such as lowering the overall projected growth by one tenth of a percent in both 2017 and 2018, but this change was somewhat offset by increasing the expected growth rate of 2016 by one tenth of a percent. Deposit rates for banks stayed at -0.4 percent and the ECB will continue to purchase assets at a monthly rate of €80 billion through at least March of 2017. In the press conference, ECB President Draghi also took a few interesting shots at the banks of Europe when he stated that “Low interest rates should not be used as the justification for everything that goes wrong with banks, it would be a mistake to do so.” He also stated that while negative interest rate policies (NIRP) may be difficult for the banks currently, it will ultimately have a positive impact on the balance sheet of the banks. The markets in Europe all moved lower during the announcement and press conference that was held in Frankfurt, but rebounded the following day. The meeting and announcement seemed to incite little impact other than the kneejerk reaction.

dragh-bo

Technical market review:

 

It can sometimes be very surprising how fast the markets can change and last week certainly fell into the surprising category.  The blue lines represent the closest level of support for each of the indexes, established by points the markets have touched in the past prior to bouncing higher. The red lines on the three major indexes have been redrawn this week as the closest level of resistance for each of the indexes based on their recent highs. For the VIX, the red line remains the rolling 52-week average level of the VIX.

4-charts-combined-9-12-16

As you can see in the above charts, all three of the major US indexes bounced along near or at the top of their respective trading ranges during the first three trading days of the week last week. Meanwhile, the VIX (lower right pane above) was hovering around near 12. While not the lowest levels that we have seen this year, it is still low by historical standards. Then Eric Rosengren joined the hawkish Fed movement on Friday and sent the markets into a tail spin, with the Dow having its worst daily decline in more than two months. It is difficult to see on the above charts, but all three of the major US indexes broke through their lower support levels (blue lines) to the down side on Friday’s negative movement. This is a significant breakdown for the markets because it breaks a long streak (52 days) of trading days without having a day with a one percent decline or more. It also happens to have landed the markets in a sort of limbo spot as there is really no support near these levels without going down by roughly another three percent. Add to the mix that we are in the month of September and the situation can quickly become one that can be driven by fear of a significant decline in the markets on the horizon. Right now, technical indicators for the markets have broken down, but there is still a chance that the markets bounce right back into their respective trading ranges during the next few days, making the break more of a one-time fluke than a full technical break in the current trend.

 

Market Statistics:

 

Directionless summer trading came to an abrupt halt last week, despite the trading week being shortened by a day:

 

Index Change Volume
Dow -1.84% Below Average
NASDAQ -2.36% Average
S&P 500 -2.39% Average

 

The first three trading days of the week last week was business as usual for summer trading with the US markets trading aimlessly near the upper edge of their respective trading ranges. All of that easy going market movement came crashing down on Friday as fears over any interest rate hike at the upcoming September meeting gripped the markets, sending the Dow down by close to 400 points. Volume was significantly below average for the week going into Friday, thanks to the Monday holiday, but there was so much volume on Friday that it actually pulled the weekly volume all of the way up to average on both the NASDAQ and the S&P 500, despite there being one less trading day. The Dow stayed below average in terms of weekly volume, but given the holiday week it was still higher than expected.

 

When looking at sectors, the following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change Bottom 5 Sectors Change
Commodities 2.05% Residential Real Estate -3.67%
Oil & Gas Exploration 1.63% Real Estate -3.85%
Energy 0.55% Consumer Goods -3.92%
Natural Resources 0.03% Home Construction -4.21%
Pharmaceuticals -0.34% Semiconductors -4.81%

Not surprising with the positive move in oil prices last week, Commodities, Oil and Gas Exploration, Energy and Natural Resources rounded out the top four performing sectors of the markets. This type of movement in these specific sectors is not uncommon when oil prices move in the opposite direction of the markets. These four sectors also happened to be the only positive equity sectors in the US markets last week. The fifth best performing sector of the week last week was the Pharmaceuticals sector, which had a good week on a relative basis, primarily because the sector stayed out of the negative news press as there were no large drug hikes or other issues during the week. The bottom performing sectors is an interesting group last week as there were several different factors at play. Semiconductors’ turning in the worst performance was partly due to the Apple conference and lower demand for the industry’s primary product, but it also seemed to be the sector that investors were pulling profits from the fastest during Friday’s decline. The fear of increasing rates had a very adverse impact on the Real Estate sector and in particular the Home Construction and the Residential Real Estate sectors. Potentially higher interest rates mean that the era of ultra-low rates may be coming to a close and with it, some of the growth in the US Real Estate sector that we have enjoyed here in the US for the past several years. Consumer Goods also made the negative list last week, as it seems the markets took the potential for higher rates to mean less spending by the consumer and punished the goods sector.

Fixed income markets here in the US were mixed last week as investors were thrown a bit of a curve ball by a Fed official on Friday, discussed in more detail above:

Fixed Income Change
Long (20+ years) -2.24%
Middle (7-10 years) -0.45%
Short (less than 1 year) 0.03%
TIPS -0.44%

Currency trading volume was below average last week, due to the shortened trading week here in the US with Monday being a holiday. Overall, the US dollar decreased by 0.61 percent against a basket of foreign currencies. The strongest of the major global currencies last week was the Japanese Yen after being the worst performing currency two weeks ago, as it advanced by 1.28 percent against the value of the US dollar. The Yen seems to have been trading wildly these last few months as investors try to bet on what the BOJ will do with its monetary policy and what the government will do to try to boost the overall health of the Japanese economy. The worst performance of the global currencies was the Canadian Dollar, which declined by 0.34 percent against the value of the US dollar, for no specific reason.

Commodities were mixed last week as precious metals moved higher and everything else pushed lower:

Metals Change Commodities Change
Gold 0.14% Oil 3.42%
Silver -1.79% Livestock 0.69%
Copper 0.81% Grains 2.84%
Agriculture 0.20%

The overall Goldman Sachs Commodity Index advanced 2.05 percent last week, with Oil being the primary driver, gaining 3.42 percent thanks to a large decline of more than 14 million barrels of oil from the US reserves during the previous week. Aside from the US reserve numbers, last week was a fairly slow week in terms of news that pushed the price of oil around. The major metals were mixed last week with Gold gaining 0.14 percent and Copper moving higher by 0.81 percent. Silver went in the opposite direction, moving lower by 1.79 percent. Soft commodities all moved higher last week with Agriculture overall gaining 0.20 percent, while Livestock advanced 0.69 percent and Grains went up 2.84 percent over the course of the week.

Top 2 Indexes Country Change Bottom 2 Indexes Country Change
Hang Seng Hong Kong 3.58% PSEi Philippines -2.89%
Straits Times Singapore 2.48% SET Thailand -5.01%

Looking at the US markets last week, it would be difficult to guess that 40 percent of the global markets turned in positive performance last week. Much of this has to do with the large decline seen in the US markets on Friday not having an impact on many of the global exchanges as they were already closed for the week. The best performing index last week was found in Hong Kong and was the Hang Seng index, which turned in a 3.58 percent gain for the week. The worst performing index for the week was found in Thailand and was the SET Index, which turned in a loss of 5.01 percent. It will be interesting to see how this week opens up and if there is sympathy trading in the global markets as they adjust to the downward move seen in the US late last week.

What a difference a week can make when looking at the VIX. Just last week I was commenting on the VIX moving lower by more than 12 percent and that it looked artificially low. Little did I know that we would see the VIX jump higher last week by more than 46 percent, giving it one of the largest weekly increases that we have seen since the beginning of the year when the VIX increased by 48 percent during the first trading week of the year. The current reading of 17.50 implies that a move of 5.05 percent is likely to occur over the next 30 days. The direction of the move over the next 30 days is unknown. Just one week into the month of September and the VIX looks like it will not disappoint the expectations of increased volatility that history would say is coming for September.

For the shortened trading week ending on 9/9/2016, returns in the hybrid hypothetical models* (net of a 1% annual management fee) were as follows:

  Last Week 2016 YTD Since 6/30/2015
Aggressive Model -2.84 % 0.53 % 4.84 %
Aggressive Benchmark -1.13 % 3.58 % -1.69 %
Growth Model -2.43 % 1.32 % 4.70 %
Growth Benchmark -0.87 % 2.93 % -1.07 %
Moderate Model -2.01 % 2.05 % 4.84 %
Moderate Benchmark -0.62 % 2.22 % -0.55 %
Income Model -1.89 % 2.64 % 5.33 %
Income Benchmark -0.30 % 1.26 % -0.05 %
S&P 500 -2.39 % 4.10 % 3.14 %

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

There were no changes to the hybrid models over the course of the previous week. The models remain invested defensively as investors try to figure out when the Fed will raise rates and, more importantly, how the markets will likely react to an increase in the Fed funds rate should it occur at the September meeting, as Rosengren seemed to be hinting at on Friday. As mentioned above in the markets stats section, consumer goods were hit much harder than usual in a downward moving market on Friday. This held true in the consumer goods stocks held in the individual equity positions within the models last week, especially on the higher risk stocks that are owned. The declines in the individual stocks, while they are concerning, seemed to be a knee jerk reaction and not the start of a trend that would warrant moving out of any of the positions. The fundamentals of the companies do not change because of a Fed official and the companies that are owned in the hybrid models are owned because they are very strong companies that historically weather all different types of markets very well.

 

One other factor that is at play in the performance numbers above, from last week, is that the benchmarks used include both a fixed income component (6-month T-Bills from the US) and equity component (the MSCI All Cap World index). The MSCI All Cap World index will be playing catch up on Monday, adjusting for the losses seen in the US on Friday after most of the component indexes of the index were already closed for the weekend.

 

Economic Release Calendar:

 

Last week was a shortened trading week due to the Labor Day holiday here in the US. There were only two economic news releases of significance last week with one of them missing market expectations to the downside and having an adverse impact on the markets (highlighted in red below):

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Negative 9/6/2016 ISM Services August 2016 51.40 54.70
Neutral 9/8/2016 Consumer Credit July 2016 $17.7 B $16.0 B

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

The first of the two economic news releases of last week was released on Tuesday and was the Services side of the ISM index. Two weeks ago the overall ISM was shown to be weaker than anticipated and the services side of the index released last week followed suit, coming in weaker than anticipated. However, the release was not as bad as it could have easily been as the index managed to stay above 50, posting a reading of 51.4 for the month of August. A reading of 50 is the inflection point between expansion and contraction in the services industries, so a reading of 51.4 means that the services sector of the US economy did expand, albeit very slowly during the month. With such a large part of the overall US economy being service related, this release indicates that the economy is still moving forward, only very slowly. The other economic news release last week came in the form of the Consumer Credit reading for the month of July, which saw credit expand by slightly more than was expected, primarily due to consumers purchasing automobiles and a last minute push to purchase homes ahead of what could be a rate hike coming in the fall.

 

After a shortened trading week last week we are back to a normal length trading week this week. It is a week that has several key economic news releases that could impact the overall movements of the markets. The releases that could impact the markets are highlighted in green below:

 

Date Release Release Range Market Expectation
9/15/2016 Retail Sales August 2016 -0.10%
9/15/2016 Retail Sales ex-auto August 2016 0.30%
9/15/2016 PPI August 2016 0.10%
9/15/2016 Core PPI August 2016 0.10%
9/15/2016 Philadelphia Fed September 2016 0
9/15/2016 Empire Manufacturing September 2016 0
9/16/2016 CPI August 2016 0.10%
9/16/2016 Core CPI August 2016 0.20%
9/16/2016 University of Michigan Consumer Sentiment Index September 2016 91.5

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

This week the economic news releases start on Thursday with the release of the retail sales figure for the month of August, which is expected to show an overall decline of 0.1 percent, while sales excluding auto sales are expected to have increased by 0.3 percent. If we see the negative overall retail sales figure come to fruition it could make it more difficult for the Fed to raise rates in September. The Producer Price Index (PPI), also released on Thursday, could also play an important factor in the inflation calculation with expectations that the reading for PPI will come in near one tenth of a percent, both overall and when looking at the core calculation. Finishing up the busy day on Thursday is the release of the two manufacturing data points for the week, those being the Philadelphia Fed index and the Empire Manufacturing index, both for the month of September. With the poor overall ISM index two weeks ago for the month of August and the poor ISM services index released last week, there is a lot riding on these two releases. Expectations are for a zero reading on both, which would probably be seen as negative in the eyes of the Fed as the Fed would like to see some small amount of expansion in manufacturing. All of these releases on Thursday will likely be the final major economic indicators that will be factored into the Fed’s thinking for the September meeting, so we could see more of a reaction to them than is typical from the markets. On Friday, the Consumer Price Index (CPI) for the month of August is set to be released with expectations of very low inflation being seen. This will not help the case for the higher rates that some Fed officials are presenting. Wrapping up the week on Friday is the release of the University of Michigan’s Consumer Sentiment Index for the month of September (first estimate), which is expected to show a slight increase over the end of August reading of 89.8. In addition to the scheduled economic news releases, there will surely be several Fed officials making comments in the media this week that the markets will be closely monitoring.

 

Interesting Fact Effect of $9 trillion on the global economy? $1,232 per person.

 

Since the Great recession of 2008-2009 the four main central banks of the world (US, Europe, Japan and the UK) have put in an estimated $9 trillion to try to get the global economy growing. So far all of that money has turned into anemic growth and uncertainty over the future of the central bank’s balance sheets. The $9 trillion is equivalent to the four central banks giving each of the 7.3 billion people on the planet (current number according to the census bureau at the time of this writing) $1,232 in cash.

 

Source: www.cnn.com, www.census.gov, Calculations are my own.

For a PDF version of the below commentary click here weekly-letter-9-6-2016

Commentary quick take:

 

  • Major developments:
    • Markets continued to trade in a sideways manner
    • Lack of new information
    • Waiting and guessing about the Fed’s next meeting

 

  • Economic data:
    • Labor report on Friday was weaker than anticipated
    • Inflation estimates continue to be very low
    • Chance of rate hike in September declined

 

  • Market statistics:
    • Global markets were mixed last week
    • Volume remains very low
    • Oil continued to push lower

 

  • Europe
    • Talk of another referendum in UK circulated late last week
    • Full recovery from Brexit vote downdraft has occurred

 

  • Technical market view:
    • Markets moved sideways last week
    • No major or minor changes in any of the technical market indicators
    • VIX gave up gains from two weeks ago

 

  • Hybrid investments strategy update:
    • Remained defensively positioned
    • Gold continues to confuse many
    • Finally done with individual company earnings

 

  • This week for the markets:
    • Shortened trading week after Labor Day
    • First full trading week of September, which is historically the worst month of the year for the equity markets
    • G20 summit

 

  • Interesting Fact: Gold fun facts.


Major theme of the markets last week: Fed Data Dependent?

funny-9-6-16

Fed Chair Yellen has long said that her Fed will be data dependent on the timing of changes in the Fed Funds rate, but the data could not be more confusing or untimely for the Fed to actually make a decision. The Fed would like to have rates higher than they currently are, but does not want to move too early (preferring to move slower than it should) and it certainly does not want to appear political by adjusting rates right before an election. As with most of the Fed meetings so far in 2016, the data heading into the September meeting is mixed at best and one does not have to look very hard to find data that indicates that now is the time to increase the rates or that it is the time to wait. Some of the reason for the discrepancies lies in the Fed’s dual mandate, while other discrepancies lie in the vast amount of data that can be sliced and diced into a myriad of different ways to ultimately get whatever data one is looking for. Being data dependent, the Fed can look at the data that best fits the group’s thinking at any given meeting, with the September meeting being no exception.
US news impacting the financial markets:

 

Waiting for the upcoming September meeting of the Federal Reserve was the only storyline in the national financial media last week as investors seemed to be thinking more about their upcoming Labor Day weekend plans than the markets. Media stories focused on the US labor market and whether it is strong enough to warrant a rate hike and the weakness in inflation and how the Fed should not be changing rates at the current time. Fed Chair Yellen made it very clear that she and the current Fed are data dependent and that the data is mixed. With the data being so mixed, especially after the weaker than expected labor market figures released last Friday, it looks more and more unlikely that the Fed will be increasing rates at the September meeting. This puts the greatest chance of a rate hike in 2016 squarely on the December meeting as the November meeting is too close to the Presidential election and the Fed does not want to be seen as a political tool. Last week there were several government economic news releases that weighted heavily on investors’ perception of the Fed’s thinking. The first was the PCE price index for the month of July, which showed that Core PCE prices increased by only 0.1 percent during the month. When this number is annualized, it is still far below the two percent target and dangerously close to being negative, which would be deflationary. In looking at the Fed’s dual mandate, it is not even close on the price stability piece if the Fed keeps its target of two percent. On the labor front, the picture is a little less clear as the overall unemployment rate is under 5 percent (currently 4.9 percent), but the U6 underemployed rate for August remained stubbornly high at 9.7 percent. Wages have also been stagnant at best, growing at a miniscule amount on a monthly basis, which added together for a year still produces a number of less than 2.5 percent growth. The payroll job creation figures both came in much lower than analysts and investors alike had predicted. So what happened to the likelihood of a rate hike at the upcoming meetings? All of the odds of a rate hike declined over the course of the past week, as can be easily seen in the table to the right. The odds remain essentially a coin toss for the December meeting, while the odds for both the September meeting and the November meeting have been cut roughly in half. With no major economic indicators being released between now and the September meeting and no Fed speeches scheduled, it is unlikely that we will see the odds of a rate hike in September move meaningfully higher, though market volatility or other central bank actions from abroad could push the likelihood of a rate hike even lower than it is currently. With the unexpected weakness in the labor market and the low inflation rates it seems the prudent course of action is to wait the data out and maneuver as much as possible in any future coming recessions or economic downdrafts. In the end, the Fed is talking about very small increases in the Fed funds rate and there is virtually no expectation that it will get the rate back up to the long-term historical average level, meaning the Fed will have a less-than-full toolbox for the next economic hardship, whether it raises rates or not. So, why not err on the side of caution by keeping rates lower for longer than expected?

fed-watch-9-6-16

Global news impacting the markets:

 

There was very little new information on the global front last week as investors around the world await the US Federal Reserve’s upcoming decisions. One interesting thing in the news was the fact that many of the European indicators that initially took a bit of a dive following the Brexit vote have now, in just two months’ time, managed to work their way back to the same level they were at prior to the Brexit vote. Manufacturing in the Eurozone and in many of the individual countries shows this very clearly as there was an initial drop after the vote, only to have it fully recover. Does this mean that all of the talk about how bad the Brexit could be for the European economy was overdone? Not necessarily. More likely is the fact that no one knows how this Brexit will play out or that it will even going to occur. There were rumors last week of another referendum in the UK that would essentially negate the other vote, but the government was quick to announce that this was simply a rumor and not true. You may remember that there are several ways in which the UK could pull out of the Brexit vote, one being that it is deemed a “nonbinding” vote, so it seems this story may still have several chapters to be written. The other international news story that made a few headlines last week was the price of oil.

 

The oil market around the world has recently been moving on rumors about a potential production freeze. These are essentially the same rumors that were first floated back in February when the oil price decline turned around. The chart below from Bloomberg shows the price of oil and how it has moved over the last five years:

oil-9-6-16

As you can see in the chart, the most recent rally (right hand side of the chart) has now officially stalled out and has started to move lower after recently touching the same level that oil prices hit back in June and July. Expectations were high for oil prices over this past weekend as there was a joint press conference scheduled between Saudi Arabia and Russia at the G20 summit, but the jump in oil prices quickly fizzled out as the press conference held nothing concrete in terms of a production limit by either country. Oil seems to have found a range between $40 and $50 per barrel that is becoming more and more difficult to break above as few countries are motivated to take the actions required to push oil prices higher. This does not mean that fuel prices will remain low, at least not here in the US, as the coming months typically see an increase in fuel costs as some refinery plants switch over from gasoline to heating oil for the winter months, temporarily lowering the supply of gasoline.

 

Technical market review:

 

All three of the major US indexes remained range bound during last week’s trading. The charts below show each of the three major indexes, plus the VIX, drawn with green lines. The blue lines represent the closest level of support for each of the indexes, established by points the markets have touched in the past prior to bouncing higher. The red lines on the three major indexes have been redrawn this week as the closest level of resistance for each of the indexes based on their recent highs. For the VIX, the red line remains the rolling 52-week average level of the VIX.

4-charts-combined-9-6-16

 

There were no changes in the technical indicators of the major US indexes last week. Low volume combined with a general lack of catalysts resulted in sideways movement. The VIX gave up the gains of two weeks ago, moving lower last week by approximately the same amount it increased two weeks ago. As we move further into September we could see the technical indicators for the markets change quite a bit. September is historically the worst month for equity investments as there have been several instances of very large declines in the markets. With a Fed meeting and a wild Presidential election coming down to the finish line, it would not be surprising to see a little more volatility in the financial markets this September, when compared to some of the more tame Septembers that we have seen in recent years.

 

Market Statistics:

 

Summer trading was under way last week and the markets lacked any general direction:

 

Index Change Volume
NASDAQ 0.59% Below Average
Dow 0.52% Below Average
S&P 500 0.50% Below Average

The three major US indexes turned in positive performance for the week last week, but it was done on very low volume. For the month of August, both the S&P 500 and the Dow turned in slight losses, while the NASDAQ enjoyed a 1 percent gain, thanks in large part to a few key earnings announcements. Now that the Labor Day holiday is behind us, it seems we could see volume pick back up in the coming weeks, moving toward average levels prior to the election.

 

When looking at sectors, the following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change Bottom 5 Sectors Change
Financials 3.09% Healthcare -0.49%
Regional Banks 2.28% Oil & Gas Exploration -0.54%
Broker Dealers 2.20% Pharmaceuticals -1.29%
Financial Services 2.12% Biotechnology -1.59%
Global Real Estate 2.06% Commodities -4.32%

With the odds of a rate hike in September moving lower, along with each of the next three meetings, it was not surprising to see that almost any sector that even touches financials had a good week last week. The top four performing sectors of the market were related to financials and one could argue that even the fifth sector (Global Real Estate) enjoyed a bump higher last week due to the thoughts surrounding the US Fed. On the negative side, Healthcare, Pharma and Biotechnology were all hit once again last week as political fallout continues to have a negative impact on the sectors. Oil and Gas Exploration and Commodities overall last week also made it on the bottom five performing sectors last week, thanks to the large decline seen once again in the price of oil.

Fixed income markets here in the US were mixed last week as investors try to decipher what the Fed plans to do at its upcoming meetings:

Fixed Income Change
Long (20+ years) 0.38%
Middle (7-10 years) 0.18%
Short (less than 1 year) -0.02%
TIPS 0.27%

Currency trading volume was below average last week, due to summer trading being in effect. Overall, the US dollar increased by 0.45 percent against a basket of foreign currencies. The strongest of the major global currencies last week was the British Pound for the second week in a row, as it advanced by 1.24 percent against the value of the US dollar. Much of this movement was due to continued speculation about the aftermath of the Brexit vote, with rumors of a new referendum on the table last week. The worst performance of the global currencies was the Japanese Yen, which declined by 2.13 percent against the value of the US dollar.

Commodities were mixed last week as precious metals moved higher and everything else pushed lower:

Metals Change Commodities Change
Gold 0.41% Oil -6.48%
Silver 4.06% Livestock -3.33%
Copper -0.30% Grains -0.47%
Agriculture -1.12%

The overall Goldman Sachs Commodity Index declined 4.32 percent last week, with Oil decreasing 6.48 percent as the G20 summit now does not look like it will produce a major oil announcement. The major metals were mixed last week with Gold gaining 0.41 percent, Silver moving higher by 4.06 percent and Copper pushing lower by 0.30 percent. Soft commodities all moved lower last week with Agriculture overall falling 1.12 percent, while Livestock fell 3.33 percent and Grains declined 0.47 percent over the course of the week.

Top 2 Indexes Country Change Bottom 2 Indexes Country Change
Nikkei 225 Japan 4.26% Straits Times Singapore -1.88%
Bovespa Brazil 3.29% All Ordinaries Australia -2.44%

Last week, 67 percent of the major global markets turned in positive performance for the week. The best performing index last week was found in Japan and was the Nikkei 225 index, which turned in a gain of 4.26 percent for the week. The worst performing index for the week was found in Australia and was the All Ordinaries Index, which turned in a loss of 2.44 percent. Australia is very dependent on China purchasing raw materials that are vital to its economy. Any perceived slowdown in buying from China has a major impact on the Australian stock market and this could have been what occurred last week.

Just when the VIX managed to push higher by double digits two weeks ago, the upward movement has come to an abrupt end as the VIX gave back much of the gains, falling 12.23 percent over the course of the previous week. The current reading of 11.98 implies that a move of 3.46 percent is likely to occur over the next 30 days. The direction of the move over the next 30 days is unknown. Now that we are fully into September for the markets it would not be unusual to see the VIX drift higher, just based on the historical increases in volatility in the markets that have been seen during the month.

For the trading week ending on 9/2/2016, returns in the hybrid hypothetical models* (net of a 1% annual management fee) were as follows:

Last Week 2016 YTD Since 6/30/2015
Aggressive Model 0.54 % 3.49 % 7.94 %
Aggressive Benchmark 0.38 % 4.77 % -0.57 %
Growth Model 0.56 % 3.86 % 7.34 %
Growth Benchmark 0.29 % 3.84 % -0.20 %
Moderate Model 0.57 % 4.16 % 7.01 %
Moderate Benchmark 0.21 % 2.86 % 0.07 %
Income Model 0.56 % 4.63 % 7.38 %
Income Benchmark 0.10 % 1.56 % 0.25 %
S&P 500 0.50 % 6.66 % 5.66 %

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

There were no changes to the hybrid models over the course of the previous week. The models remain invested defensively as investors try to figure out when the Fed will raise rates and, more importantly, how the markets will likely react to an increase in the Fed funds rate. The primary defensive positions held in the hybrid models include Cash, an inverse S&P 500 mutual fund and a heavy weighting toward the Consumer Staple Sector. Currently, there are no holdings of precious metals (several people have inquired about over the past few weeks) because Gold in particular has become a very complicated investment. Not only do you have everyday investors betting on the short term direction of Gold, but you also have to contend with governments’ seemingly random purchase and sales of large amounts of gold, central bank actions and the mining sector as a whole, which has been under pressure recently. In theory, Gold typically helps to offset inflation as it is a “store of value,” but given the fact that we have very little, if any, real inflation here in the US and in many of the developed countries around the world, it seems the demand for Gold as a safe haven asset may move significantly lower before moving meaningfully higher. The primary sector that is currently being watched for an entry point remains Healthcare, but as you can see from the performance of the sector over the past few weeks, it has seen a lot of negative performance, mainly driven by negative headlines, so we continue to wait on purchasing an initial position.

 

Economic Release Calendar:

 

Last week was a typical summer week in terms of the number of releases, but we did see some interesting new information about the situation in the US labor market released last week. Reports that significantly beat expectations are highlighted in green below, while releases that significantly missed expectations are highlighted in red:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Neutral 8/29/2016 Personal Income July 2016 0.40% 0.40%
Neutral 8/29/2016 Personal Spending July 2016 0.30% 0.30%
Neutral 8/29/2016 Core PCE Prices July 2016 0.10% 0.10%
Positive 8/30/2016 Consumer Confidence August 2016 101.1 97
Neutral 8/31/2016 Chicago PMI August 2016 51.5 54.5
Neutral 8/31/2016 Pending Home Sales July 2016 1.30% 0.70%
Slightly Negative 9/1/2016 Construction Spending July 2016 0.00% 0.60%
Negative 9/1/2016 ISM Index August 2016 49.4 52.2
Slightly Negative 9/2/2016 Nonfarm Payrolls August 2016 151K 180K
Negative 9/2/2016 Nonfarm Private Payrolls August 2016 126K 175K
Slightly Negative 9/2/2016 Unemployment Rate August 2016 4.90% 4.80%

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

The economic news releases kicked off on Monday last week with the release of the latest personal income and spending figures for the month of July, which both came in exactly as expected and indicated a slow growth pattern. CPE prices were also released on Monday and showed a very low rate of inflation, coming in at just 0.1 percent, far below the Fed’s target inflation rate and not helping the case for a rate increase. On Tuesday, the market got a nice little bump from the consumer confidence figure for the month of August, which came in 4 percent higher than was expected with a reading of 101.1, which is the highest level that we have seen on the index in the past 11 months. On Wednesday, the Chicago PMI missed expectations, coming in above 50, but below the expected 54.5 with a reading of 51.5. This release showed continued weakness in the manufacturing sector here in the US. On Thursday, the weakness in the manufacturing sector was a little more blatant as the overall PMI figure for the month of August came in below 50 with a reading of 49.4, which means that overall manufacturing in the US during the month of August contracted when compared to the July level. This release should be very concerning for the Fed as manufacturing is a very interest rate sensitive environment and a rate hike could present the sector when even more problems. On Friday, the jobs data pointed toward more weakness than many had been expecting and the Fed had been hoping for. The overall unemployment rate increased from 4.8 to 4.9 percent, while the payroll figures both missed expectations by at least 30,000 jobs. Other data released on Friday included a stagnant labor force participation rate and a very low 0.1 percent increase in average hourly earnings. Combine these figures with a declining average workweek in terms of hours and it becomes easy to formulate a reason for the Fed not to increase rates in September.

 

This week is a shortened trading week due to the Labor Day holiday on Monday and it seems that even the economic news releases will be taking some time off this week, as there are only 2 releases with one that may impact the overall markets. The release that could impact the markets is highlighted in green below:

 

Date Release Release Range Market Expectation
9/6/2016 ISM Services August 2016 54.70
9/8/2016 Consumer Credit July 2016 $16.0B

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

The week starts off on Tuesday with the release of the Services side of the ISM index, which will be closely watched after the poor showing for the overall ISM that was posted last week. The services index, however, is expected to be well over 50, so it is unlikely that we will see a print on this index below 50 as we saw last week on the ISM. The only other economic news release of the week this week is the July reading for consumer credit, which is a good indicator of bank lending and how the US consumer feels about the economy going forward. Consumers tend to borrow more money when economic times are good and prospects look good going forward. There are no scheduled speeches by any Fed officials over the course of this week.

 

Interesting Fact Gold fun facts.

 

Gold can be hammered into sheets so thin that a pile of them an inch high would contain more than 200,000 separate sheets.

 

A single ounce of gold can be drawn into a wire 60 miles long.

 

Source: www.sbcgold.com

For a PDF version of the below commentary please click here Weekly Letter 8-29-2016

Commentary quick take:

 

  • Major developments:
    • Third slow week of trading in a row last week
    • Markets seemed to lack overall direction
    • Fed signaled a rate hike is coming
    • Earnings season is finished

 

  • Earnings season for the second quarter is now more than 98% complete:
    • Retailers continued to see mixed results
    • Forward looking guidance overall (Q3 and beyond) is still negative

 

  • Jackson Hole:
    • Hawkish speech by Chair Yellen on Friday
    • Interesting omissions from Fed tool box going forward
    • September and December are both on the table for the 2016 hike

 

  • Market statistics:
    • Global markets were mixed last week
    • Volume remains very low
    • VIX spiked upward to the highest levels of the past few months

 

  • Technical market view:
    • Markets moved sideways last week
    • No major or minor changes in any of the technical market indicators

 

  • Hybrid investments strategy update:
    • Remained defensively positioned
    • Looked at healthcare, but determined too much political risk currently

 

  • This week for the markets:
    • Last week of “summer trading”

 

  • Interesting Fact: 2,600 mile run completed.

 


Major theme of the markets last week: What a difference a year can make!

Funny 8-29-16-2

It was exactly one year ago that China “adjusted” its currency to better align with the rules of becoming a global reserve currency. This adjustment sparked immediate panic in the Chinese and global financial markets with some pundits concluding that a bear market was upon us. They were correct about the bear market in China as all of the major Chinese indexes declined by more than 25 percent in about a week.A bear market is officially a decline of 20 percent or more from a previous high point. Global financial markets trading sympathetically with China moved notably lower; the Dow gave up almost 2,000 points in 6 days, while both the S&P 500 and the NASDAQ fell by more than 11 percent. Following the initial shock waves was a time of great volatility and uncertainty about the future direction of the global financial markets and the markets traded in a very wide trading range through the end of 2015. This year, while the Chinese government could take drastic actions in “adjusting” its currency, it seems it is more focused on internal spending in an attempt to boost its economy. All eyes seem to be turning to the US Federal Reserve and its upcoming rate decision with the next meeting just a few weeks away and the Jackson Hole meeting last week seeming more Hawkish than expected.
US news impacting the financial markets:

 

Upcoming Federal Reserve meetings and the prospects for an interest rate hike were the focus of the US financial markets and media last week as the Jackson Hole meeting of Fed officials and economists was underway. Hedgeye produced a great cartoon last week that really set the tone for how the markets felt about the meeting:

The media is abound with statements that the Fed is either more hawkish or dovish, with hawkish meaning the Fed is more likely to raise interest rates and dovish meaning the Fed is unlikely to increase rates any time soon. The red line on the cartoon above represents the odds of a rate hike at the December 2016 meeting. On the far left we see the odds of a hike at the beginning of 2016 as high as 90 percent with the odds bouncing around to a low point of 33 percent near the end of July and rebounding to near 50 percent currently. The fluctuation in the odds of a Fed rate hike are based on several different factors, including language of Fed officials in both official and unofficial speeches, as well as emerging data that is constantly flowing into various economic models to indicate if the economy has met the various targets set by the Fed. Fed Chair Yellen gave the closing speech in Jackson Hole on Friday, as is customary, which was quickly dissected by Wall Street with investors looking to read between the lines about when a rate hike may be coming and seeking other tidbits of information.

Jackson Hole 8-29-16

In her speech, Chair Yellen noted the lack of inflation at the Fed’s targeted 2 percent rate, “appreciation of the US dollar, “soft” business investment and weaker foreign demand for US goods as reasons for why rates remain low. However, these seemingly negative reasons for increasing rates were more than offset by her mentioning “solid growth in household spending” and improvements in the labor market.” When looked at in total, most Fed watchers concluded that the speech put the September meeting squarely on the table for a potential rate hike and further strengthened the case for at least one rate hike before the end of the year. September and December have long been looked at as possible meetings for a rate hike because we are running out of meetings. The November meeting is off the table because the Fed does not want to appear political just weeks before the US Presidential election. Currently, odds of a rate hike are higher in December than in September, but it is too close to call at this point. Another interesting aspect of Chair Yellen’s speech was her review of the Fed tools that could be used in the next recession. With interest rates likely to remain at such low levels, she said the Fed will have to implement other tools in tandem with a rate reduction to combat the recession. The primary tool mentioned was the purchase of bonds, as pursued in 2008 and 2009. Fed watchers quickly noted that she made no mention of negative interest rates being attempted here in the US, as currently seen in Japan and Europe. She also said no changes will be made to target rates of inflation or employment. She concluded her speech with a call for governments around the world to step up and undertake structural reforms that are needed to fix financial system short falls and cautioned that monetary policy actions alone are not enough to help economies recover. Overall, the speech was seen as more hawkish than dovish as it seems interest rates will likely move higher before the end of the year, barring some very unusual economic data being released that would signal a great amount of weakness. While many eyes were focused on Jackson Hole, the very tail end of the second quarter earnings season was coming to an end last week.

 

Retailers continued to be the focal point for earnings releases last week as several big name stores posted earnings. Below is a table of the well-known companies that released earnings last week with earnings that missed expectations highlighted in red, while earnings that beat expectations by more than 10 percent are highlighted in green:

 

Best Buy 36% Express -24% Sears 0%
Big Lots 13% GUESS? 133% Splunk -7%
Burlington Stores 30% J M Smucker 6% Tiffany & Co 18%
Dollar General -1% Michaels Companies 0% Williams-Sonoma 0%

 

Starting with the higher-end retailers, Best Buy and Tiffany & Co both turned in solid results for the most recent quarter. The primary drivers, however, were very different. Tiffany & Co saw improved earnings thanks in large part to the lower costs associated with its raw materials (Gold and Silver) during the quarter. Best Buy posted strong numbers as a result of the unexpected jump in consumer spending on big ticket items such as refrigerators, dish washers and home entertainment equipment. In the retail clothing business, the quarter was very mixed as some stores seemed to be on top of carrying the latest fashions, while others lagged behind. Guess? got it correct for the second quarter, easily beating Wall Street expectations, while Express fell short, experiencing less foot traffic than expected in its retail locations during the quarter. Dollar General posted weak sales and earnings, missing the already low expectations of many analysts, with the company pinning much of the poor performance on a reduction in the government’s SNAP program, which began being phased-in in April of this year.

 

According to Factset Research, we have seen 491 (98 percent) of the S&P 500 companies release their results for the second quarter of 2016. Of the 491 that have released, 71 percent have beaten earnings estimates, while 10 percent have met expectations and 19 percent have fallen short of expectations. When looking at revenue of the companies that have reported, 53 percent of the companies have beaten estimates, while 47 percent have fallen short. When compared to previous quarters, the figures above are slightly below the 1-year average and slightly above their respective 5-year averages, meaning the second quarter of 2016 is seeing earnings per share and revenues per share that are just okay in terms of meeting or beating market expectations. The year-over-year change in overall earnings does not look good, however, as we are seeing a year-over-year change in earnings of -3.2 percent. When looking to the third quarter of 2016, 110 companies have issued forward looking guidance, with 77 issuing negative guidance and 33 issuing positive guidance.

 

This week there is only a single company that has much of a chance of moving the market when it releases its earnings and that company is Campbell Soup. Aside from Campbell, the other companies releasing results are second tier retailers, most of which are not members of the S&P 500.

 

Global news impacting the markets:

 

It was a very slow week for global news that impacted the financial markets. Economic data out of Europe and Asia was mixed and largely ignored. Once we enter September we should start to see the global financial news pick up once again, thanks to a number of reports due out from key countries such as China, Japan, UK and Germany.

 

Technical market review:

 

All three of the major US indexes remained range bound during last week’s trading. The charts below show each of the three major indexes, plus the VIX, drawn with green lines. The blue lines represent the closest level of support for each of the indexes, established by points the markets have touched in the past prior to bouncing higher. The red lines on the three major indexes have been redrawn this week as the closest level of resistance for each of the indexes based on their recent highs. For the VIX, the red line remains the rolling 52-week average level of the VIX.

4 charts combined 8-29-16

With volume in full summer trading mode last week it was not unusual to see the markets meander in a directionless fashion. All three of the major US indexes moved lower for the week, but remain at about the half-way point between the upper and lower ends of their trading ranges. The VIX, on the other hand, jumped higher last week, gaining more than 20 percent as it moved off of some of the lowest points that we have seen over the past two years. Even with the increase in the VIX it is still very low when compared to the average level that we have seen over the past year. Going forward it still looks like the risk to these markets remains on the downside as there is a general lack of a potential upside catalyst now that we are through earnings season and in the late summer waiting period before Labor day and the September Fed meeting, which could hold a rate hike, as mentioned above.

 

Market Statistics:

 

Summer trading was under way last week as the markets lacked any general direction:

 

Index Change Volume
NASDAQ -0.37% Below Average
S&P 500 -0.68% Below Average
Dow -0.85% Below Average

 

Volume remains expectedly below average for the summer weeks in the markets, but these last few weeks have been abnormally low, even when factoring in the summer trading. When looking back at previous years during these few weeks we see that volume was noticeably higher. Some of this could be due to the large correction seen in the market last year, the result of China causing a spike in volume. With a general lack of participation in the markets in terms of volume, we are at risk of increased volatility, both to the upside and the down, as stories that barely make the radar when they come out may become much larger than they otherwise would be. This week, one of the sectors that declined the most fell into this summer trap as the cost of medicine increasing brought the wrath of the media down on the entire sector, pushing it lower.

 

When looking at sectors, the following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change Bottom 5 Sectors Change
Semiconductors 1.21% Healthcare -1.84%
Regional Banks 1.07% Utilities -2.05%
Home Construction 0.94% Natural Resources -2.16%
Software 0.89% Healthcare Providers -2.30%
Financial Services 0.83% Pharmaceuticals -2.83%

The top performing sectors last week seemed to lack any general theme as they crossed a wide range of sectors. Home Construction will be closely watched this week as construction spending for the month of July is set to be released and could potentially move the sector. The negative performing sectors of the market last week had a much more noticeable theme as Healthcare came under fire in several different ways. Pharmaceuticals was once again villainized by the media, thanks to a price increase of near 100 percent for life saving EpiPens as Mylan hiked the prices to try to boost its bottom line. The CEO was called out on the price hike and the company has since announced that it will be offering a generic of the EpiPens that will sell at half the price of the newly elevated prices for the original product. The CEO defended her actions, saying that Mylan only gets about 25 percent of the selling cost of the pens with the rest going to insurers, pharmacies and other third parties. There will be a congressional investigation into Mylan’s actions under the suspicion of price gauging. In the end, the company will likely be able to point the finger around to enough different places that little financial ramification will fall on the company. Healthcare Providers specifically and the Healthcare sector overall also showed up on the bottom 5 performing sectors last week as there are more and more questions about which major plan providers will be offering Affordable Care Act compliant plans for 2017. The costs for many of these plans have become so onerous that the providers are opting not to sell them, driving more people to small state-run plans and stressing those plans as well with more people than they were originally designed to care for.

Fixed income markets here in the US were negative last week as the odds of a Fed rate hike coming this year pushed higher. After Chair Yellen’s speech on Friday, we saw a flattening of the yield curve as the middle and longer end of the curve moved down in a larger proportion than the shorter end of the curve:

Fixed Income Change
Long (20+ years) -0.25%
Middle (7-10 years) -0.37%
Short (less than 1 year) -0.02%
TIPS -0.25%

Currency trading volume was below average last week due to summer trading being in effect. Overall, the US dollar increased by 1.06 percent against a basket of foreign currencies. The strongest of the major global currencies last week was the British Pound, as it advanced by 0.39 percent against the value of the US dollar. Much of this movement was due to continued speculation about the aftermath of the Brexit vote being potentially delayed and ultimately less impactful on the economy than first feared. The worst performance of the global currencies, after being the best two weeks ago, was the Swiss Franc, which declined by 1.88 percent against the value of the US dollar.

Commodities were negative across the board last week:

Metals Change Commodities Change
Gold -1.50% Oil -3.44%
Silver -3.43% Livestock -2.73%
Copper -5.19% Grains -6.05%
Agriculture -1.58%

The overall Goldman Sachs Commodity Index declined 2.24 percent last week, as Oil decreased 3.44 percent on few rumors of an oil production freeze coming to fruition. The major metals were down last week with Gold falling 1.50 percent, Silver moving lower by 3.43 percent and Copper pushing lower by 5.19 percent. The indiscriminate selling of metals was a little unusual for a week when the equity and fixed income markets also moved lower. Typically, Gold and Silver are seen as safe haven assets and move in the opposite direction of the equity and fixed income markets; for whatever reason that was not the case during trading last week. Soft commodities all moved lower last week with Agriculture overall falling 1.58 percent, while Livestock fell 2.73 percent and Grains tumbled 6.05 percent over the course of the week, thanks in large part to higher than expected crop yields here in the US for 2016.

Top 2 Indexes Country Change Bottom 2 Indexes Country Change
FTSE MIB Italy 3.27% Caracas General Venezuela -2.32%
IBEX 35 Spain 2.47% Sao Paulo Bovespa Brazil -2.34%

Last week saw only 48 percent of the major global markets turn in positive performance for the week. The top two performing indexes were the same two indexes that were the worst performing indexes two weeks ago, in a full reversal of performance. The best performing index last week was found in Italy and was the FTSE MIB index, which turned in a gain of 3.27 percent for the week. Much of this gain was due to the Italian banking system not falling apart under increased scrutiny of the shaky system by outside regulators. The worst performing index for the week was found in Brazil and was the Sao Paulo based Bovespa Index, which turned in a loss of 2.34 percent. Now that the Olympics have ended and problems with funding for the Paralympics are mounting, it seems Brazil is headed right back to the financial problems and corruption it was notorious for prior to the Olympics being held.

We finally saw some movement in the VIX last week, following several consecutive weeks that lacked much movement. The VIX rose last week from the very low levels seen two weeks ago, gaining 20.37 percent for the week. The current reading of 13.65 implies that a move of 3.94 percent is likely to occur over the next 30 days. The direction of the move over the next 30 days is unknown. Once we get through summer trading and some of the large market movers return from summer vacations, we may see a bit of an uptick in the VIX as there are fewer and fewer reasons for the market to continue to push higher in a low volatility fashion.

For the trading week ending on 8/26/2016, returns in the hybrid hypothetical models* (net of a 1% annual management fee) were as follows:

  Last Week 2016 YTD Since 6/30/2015
Aggressive Model -0.80 % 2.93 % 7.36 %
Aggressive Benchmark -0.36 % 4.37 % -0.94 %
Growth Model -0.67 % 3.28 % 6.73 %
Growth Benchmark -0.27 % 3.54 % -0.49 %
Moderate Model -0.54 % 3.57 % 6.40 %
Moderate Benchmark -0.20 % 2.64 % -0.14 %
Income Model -0.48 % 4.05 % 6.78 %
Income Benchmark -0.09 % 1.46 % 0.15 %
S&P 500 -0.68 % 6.12 % 5.13 %

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

There were no changes to the models over the course of the previous week. They remain defensively positioned given the overbought nature of the markets. Healthcare, one of the sectors that we have been closely watching for the past several months for a potential initial investment took a hit last week, but the political risks for the sector seem to remain elevated, so an initial position was not purchased.

 

Economic Release Calendar:

 

Last week was a typical summer week in terms of the number of releases, with most of the releases coming in very close to market expectations:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Slightly Positive 8/23/2016 New Home Sales July 2016 654K 580K
Neutral 8/24/2016 Existing Home Sales July 2016 5.39 Million 5.5 Million
Positive 8/25/2016 Durable Orders July 2016 4.4% 3.5%
Positive 8/25/2016 Durable Orders, Ex-Transportation July 2016 1.5% 0.4%
Neutral 8/26/2016 GDP – Second Estimate Q2 2016 1.1% 1.1%
Slightly Negative 8/26/2016 University of Michigan Consumer Sentiment August 2016 89.8 90.8

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

Last week the economic news releases started on Tuesday with the release of new home sales for the month of July, which came in higher than expected, helping to push the home building sector high for the week. Existing home sales for the month of July, released on Wednesday, came in slightly below expectations, but still easily above the very important 5 million unit level. On Thursday, the market saw some nice numbers in the durable goods orders figures as both overall orders and orders excluding transportation handily beat market expectations. This is a good sign for the overall US economy as durable goods represent big ticket items that individuals and corporate America typically cut back on buying going into uncertain economic times. On Friday, the second revision of US GDP for the second quarter of 2016 was released and, as expected, posted a 1.1 percent reading, which was a reduction of one tenth of a percent from the first estimate. Wrapping up the week on Friday last week was the release of the University of Michigan’s Consumer Sentiment index for the month of August (final reading), which showed that confidence slipped slightly during the middle of the month. The decline in confidence, however, was not enough to cause alarm as we would need to see the index move several points lower before the markets really take notice.

 

With the end of August occurring during the trading week this week, it is going to make for a busy week of economic news releases. The releases that could impact the markets are highlighted in green below:

 

Date Release Release Range Market Expectation
8/29/2016 Personal Income July 2016 0.40%
8/29/2016 Personal Spending July 2016 0.30%
8/29/2016 Core PCE Prices July 2016 0.10%
8/30/2016 Consumer Confidence August 2016 97
8/31/2016 Chicago PMI August 2016 54.5
8/31/2016 Pending Home Sales July 2016 0.70%
9/1/2016 Construction Spending July 2016 0.60%
9/1/2016 ISM Index August 2016 52.2
9/2/2016 Nonfarm Payrolls August 2016 180K
9/2/2016 Nonfarm Private Payrolls August 2016 175K
9/2/2016 Unemployment Rate August 2016 4.80%

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

This week the economic news releases start on Monday with the release of personal income and spending, both for the month of July. Later during the day on Monday the Core PCE price index will be released and closely watched for any indication that it is high enough for the Fed to justify a rate hike. On Tuesday, consumer confidence as measured by the government is set to be released with expectations of little change when compared to the July reading. This seems a little optimistic given the decline seen during the month in the University of Michigan’s figure. On Wednesday, the Chicago PMI is set to be released with expectations of a slight decrease during the month, but still easily staying above the very important 50 level. On Thursday the overall ISM index for the month of August is set to be released with the reading hovering precariously close to 50; expectations are for a reading of 52.2. If we see this figure dip below 50, we will likely see the markets move higher as the odds of a Fed rate hike in September would likely meaningfully decline. Friday is a big day for releases with the government releasing the latest unemployment rate as well as the payroll figures for the month of August. These figures combined with the labor force participation rate and wage growth during August could all play into the Fed’s formulation and thinking about the appropriate timing of a rate increase. With Chair Yellen’s comprehensive speech last week, the six Fed speeches slated to be given this week will likely hold a little less weight than they otherwise might.

 

Interesting Fact 93 year old WWII veteran completed 2,600 mile run

 

Two weeks ago on Friday, a 93 year old World War II veteran completed his 2,600 mile run across America upon reaching the Atlantic Ocean. His run started back in October of 2013 in San Diego. Ernie Andrus completed the run to raise awareness about a WWII era Landing Ship Tank that is currently on display in Evansville, Indiana. His goal is to bring the ship back to Normandy and he would like to see it brought back for the 2019 D-Day Memorial Service.

 

Source: www.huffingtonpost.com

For a PDF version of the below commentary please click here Weekly Letter 8-22-2016

Commentary quick take:

 

  • Major developments:
    • Second slow week of trading in a row last week
    • Markets seemed to lack overall direction
    • Mixed signals on manufacturing in the US
    • Earnings season is almost complete

 

  • Earnings season for the second quarter is now more than 95% complete:
    • Wal-Mart turned in a solid quarter and raised outlook
    • Outlook is less positive at Target
    • Forward looking guidance overall (Q3 and beyond) is still negative

 

  • Fed Minutes for July released:
    • Split Fed seen
    • Increased chance of rate hike this year
    • Foreign concerns still driving some Fed thinking

 

  • Europe:
    • Italian banking health being questioned
    • Italian referendum vote looming

 

  • Market statistics:
    • Global markets were mixed last week
    • Volume remains very low
    • VIX is back at lowest level seen in more than two years

 

  • Technical market view:
    • Rally appears to have stalled for the indexes
    • New ranges have been drawn on the index charts

 

  • Hybrid investments strategy update:
    • Increased defensive positioning
    • Earnings season continues to drive stock performance

 

  • This week for the markets:
    • Jackson Hole Fed Summit

 

  • Interesting Fact: What can you do in 114 seconds?

 


Major theme of the markets last week: Italian Banks

Funny 8-22-16

Trouble at some of Europe’s oldest financial institutions in Italy seemed to be a major theme for the global financial markets last week. Accounting issues brought to light last week combined with continued weakness in the sector overall have global investors once again watching Europe very closely. Similar to Greece’s need for multiple bailouts over the past several years, it is becoming increasingly clear that the Italian banks are in real trouble and will need a combination of bailout funds, and potentially some bail-in funds, to pull through. The latest round of European bank stress tests did not help the situation in Italy as many banks failed various capital requirements under very generous stress tests. The banks in Italy are leaning; it is now just a matter of time to see which banks will be able to correct their leaning ways and which will ultimately fall.
US news impacting the financial markets:

 

The news last week was dominated by the latest release of the FOMC meeting minutes for the month of July and by the final few companies that released their second quarter earnings results, including Wal-Mart and Target. On Wednesday last week, the minutes from the previous FOMC meeting were released and showed that the US Federal Reserve is indeed very fractured in terms of its thinking about when to increase interest rates. The Fed split included one member that “preferred to raise the target range for the Federal funds rate at the current meeting,” referring to the last meeting held in July. There were also a few other Fed officials that see the timing of the rate hike as being almost upon the Fed as the fallout from the Brexit vote remains very muted and growth in the labor market has rebounded after the unexpected drop a few months ago. One thing that was focused on in the meeting minutes is that the Fed will await data to confirm that it is time to increase rates. Inflation in particular is running well below the Fed’s target two percent, as it has been for a number of years. The chart below from the St. Louis Fed FRED data system shows the Fed’s most reliable measure of inflation, the Personal Consumption Expenditure (PCE) Index excluding food and fuel, for the past 5 years with the red line being drawn at the 2 percent annual level.

PCE 8-22-16

As you can see, we have not seen a two percent rate of inflation on the PCE index since May of 2012. If the Fed is really waiting on this rate to hit 2 percent, it could be waiting a long time. One final interesting aspect of the meeting minutes from last week is that non-voting members of the FOMC seem to be in favor of increasing rates sooner rather than later, but without them having a vote at the upcoming meetings it seems unlikely the group will have enough power to sway voting members toward their thinking. Taking all of the information into account from the minutes last week, we did see the odds of a Fed rate hike during 2016 finally make it up to 53 percent, as measured by the CBOE’s Fed Watch table, shown to the right. This is the first time in many months that the odds of a rate hike have been above 50 percent by the end of the year. We may learn more about the Fed’s thinking this week as many Fed officials and central bankers from around the world attend the annual Jackson Hole symposium.

fed watch 8-22-16

Jackson Hole, Wyoming is the unlikely location of a Federal Reserve symposium every year that is very closely monitored by Wall Street as there is a closing address by the Chair of the Federal Reserve and numerous research papers and ideas are shared across the different sessions. Previously, some major changes in Fed policy have been discussed and ultimately adopted from discussions held in Jackson Hole. This year, one of the two main focal points of the meeting will likely be monetary policy and whether it is having the desired impact on the global markets and the second will likely be a discussion on inflation or the lack of inflation currently seen in the US. There has been a lot of talk around the world recently about the impact of Central Bank stimulus and if it is having any of the desired outcomes or if it is merely forming bubbles in various asset classes that could ultimately prove to be more costly than the problems being temporarily fixed through stimulus measures. With the general lack of inflation being seen here in the US, it seems that target inflation rates and measurement of inflation will be hotly debated topics this year as changes in the way the Fed looks at inflation could change the future for monetary policy going into the future. As the markets get ready to watch the Jackson Hole summit later this week, they will also be digesting the very last of the earnings season for 2016, which is quickly coming to a close with a small group of retailers posting their results this week, similar to last week.

 

Retailers continued to be the focal point for earnings releases last week as many of the big name stores posted earnings. Below is a table of the well-known companies that released earnings last week with earnings that missed expectations highlighted in red, while earnings that beat expectations by more than 10 percent are highlighted in green:

 

Advance Auto Parts -11% Foot Locker 3% Staples 0%
Agilent Technologies 4% Hain Celestial Group pushed Stein Mart -14%
Cisco Systems 5% Home Depot 1% Sysco 7%
Cree -14% Hormel Foods 6% Target 8%
Deere & Co 63% Jack Henry & Associates 33% TJX Companies 5%
Dick’s Sporting Goods 21% Lowe’s Companies -4% Tuesday Morning 25%
Estee Lauder 8% Ross Stores 6% Wal-Mart Stores 5%

 

Retailers were the focal point for the markets last week in terms of earnings announcements as some of the largest retailers in the world saw very different quarters. Target and Wal-Mart both released their second quarter earnings results last week with both beating expectations, but having very different outlooks on the coming quarter and remainder of 2016. Target announced first last week and beat expectations, but saw overall sales growth slowing in the second quarter and for the remainder of the year. Wal-Mart, on the other hand, saw sales increasing during the quarter and increased its overall guidance for 2016. Slower foot traffic and more dependence on online sales were a major theme from both Target and Wal-Mart last week as well as from TJ Maxx and Macy’s. Macy’s is taking particularly drastic measures as the company announced it would be closing 100 brick and mortar stores in the near future, which amounts to 14 percent of its total stores. All of the big stores cited online competition as both a potential problem and opportunity going forward. Wal-Mart took the biggest step of the week in the space when it announced it was acquiring jet.com, an online marketplace, so that Wal-Mart can try to better compete with Amazon. Home Depot and Lowe’s rounded out the major retailers last week with both companies seeing increased foot traffic and sales as both sell items that are typically more difficult to shop for online.

 

According to Factset Research, we have seen 477 (95 percent) of the S&P 500 companies release their results for the second quarter of 2016. Of the 477 that have released, 71 percent have beaten earnings estimates, while 10 percent have met expectations and 19 percent have fallen short of expectations. When looking at revenue of the companies that have reported, 54 percent of the companies have beaten estimates, while 46 percent have fallen short. When compared to previous quarters, the figures above are slightly below the 1-year average and slightly above their respective 5-year averages, meaning the second quarter of 2016 is seeing earnings per share and revenues per share that are just okay in terms of meeting or beating market expectations. The year-over-year change in overall earnings does not look good, however, as we are seeing a year-over-year change in earnings of -3.2 percent. When looking to the third quarter of 2016, there have been 102 companies that have issued forward looking guidance, with 72 issuing negative guidance 30 issuing positive guidance. The retail sector has been one of the main culprits for issuing negative guidance during the second quarter as most see the landscape ahead as very challenging with the economic and political uncertainty that will play out over the third and fourth quarters of 2016.

 

Second quarter earnings season is down to a small group of late reporting retailers, for the most part. This is the final week for a table of upcoming companies to report earnings. The table below shows the companies that have the greatest potential to move the markets highlighted in green:

 

Best Buy Express Sears
Big Lots GUESS? Splunk
Burlington Stores J M Smucker Tiffany & Co
Dollar General Michaels Companies Williams-Sonoma

 

Retailers will be the focal point for earnings announcements this week with both high-end and discount chains releasing their earnings. Dollar General typically sees about the same performance as Wal-Mart in terms of spending trends so we will likely see a beat from that company. Higher end stores like Tiffany & Co and Williams-Sonoma will likely have felt some pressure during the second quarter from slower foot traffic in their stores, leaving their results up to how their online sales were for the quarter. Splunk is always closely followed by Wall Street as this is one of a very few public big data-focused companies and a true bellwether for the quickly growing industry.

 

Global news impacting the markets:

 

There was not much in terms of global news that impacted the financial markets last week as it seemed the world was captivated by the Summer Olympic Games and summer holidays, but Italy did make a few headlines and they were not very positive. Three weeks ago I shared that the figure for the average historical returns during the modern Summer Olympic Games on the Dow was a 1.8 percent gain. With the games being closed last night, the return for the Dow during the 2016 Summer Games was 1.09 percent, so slightly below average, but still a positive return. On a more serious note, the Italian banking system seems to be coming under more and more pressure to reform some of its less than ideal practices. Following the results of the European bank stress tests released about two months ago, it was widely known that the Italian banking system is having trouble with bad loans and poor assets being carried on their books. To make matters worse, Italy will now be holding a referendum on constitutional reforms that were central to Prime Minister Matteo Renzi’s campaign platform in 2014. The vote is scheduled to occur before the end of the year and if the reforms are not passed, the current government may be forced to resign and snap elections called, once again changing the regime in Italy. This will potentially add to the uncertainty facing global investors as they try to understand the risks currently being taken on by the banking system in Italy. We have already seen one major vote in Europe not turn out as expected this year with the Brexit, so it is not very far-fetched to say we may be surprised once again this year, and this time by Italy. With Italy being one of the pillars of the European Union and on the Euro, any small problems could quickly become big problems for Europe.

 

Technical market review:

 

All three of the major US indexes look to currently be range bound. The charts below show each of the three major indexes, plus the VIX, drawn with green lines. The blue lines represent the closest level of support for each of the indexes, established by points the markets have touched in the past prior to bouncing higher. The red lines on the three major indexes have been redrawn this week as the closest level of the resistance for each of the indexes based on their recent highs. For the VIX, the red line remains the rolling 52-week average level of the VIX.

4 charts combined 8-22-16

The trading ranges of the three major indexes are relatively narrow, as can be seen by how close the red and blue lines above are drawn. There is not much technical strength in these new trading ranges for the indexes as both the Dow and the S&P 500 (top two charts) look like they have essentially run out of steam after moving up very fast back in late June and early July. The charts of these two indexes are showing signs of exhaustion as the movements higher are becoming smaller and being done with less volume as bullish investors are getting tired of pushing the markets higher. The NASDAQ (lower left pane above) has been on a steadier upward trajectory for the past four weeks, but even this movement has to slow down as the annualized rate of return the NASDAQ has been moving at since July 12th is more than 45 percent, which is entirely unsustainable in the current economic environment. While the indexes have been enjoying upward movement, the VIX has been pushing lower and last week set a new low point for the year and the lowest reading that we have seen going all of the way back to July of 2014.

 

Market Statistics:

 

The markets turned in a lackluster trading week last week as the 2016 summer trading season starts to draw to a close:

 

Index Change Volume
NASDAQ 0.10% Below Average
S&P 500 -0.01% Below Average
Dow -0.13% Below Average

 

Volume remained below average across all three of the major US indexes as there were obviously a lot of East Coast Wall Street investors still taking some summer holidays. Even the meeting minutes from the Fed for the July meeting failed to cause much excitement during the directionless trading seen in the markets. With the second quarter earnings announcements almost completely finished, this week looks like it too could be a very slow week for the global financial markets as there are few scheduled announcements or events that could push the markets. As mentioned above, all eyes will be on Jackson Hole this week, but even this is unlikely to provide enough concrete information for the markets to actually adjust their thinking about the Fed’s upcoming rate decisions.

 

When looking at sectors, the following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change Bottom 5 Sectors Change
Oil & Gas Exploration 3.27% Consumer Service -0.82%
Semiconductors 2.52% Healthcare Providers -1.12%
Energy 2.31% Utilities -1.52%
Technology 2.07% Residential Real Estate -2.03%
Broker Dealers 1.95% Telecommunications -2.52%

With oil booking its second week in a row of more than 6 percent gains, it was not surprising to see Oil and Gas Exploration as well as Energy overall take two of the top three spots in terms of sector performance last week. Semiconductors also enjoyed a bit of a risk-on trade, as did Technology overall. Financial Broker Dealers rounded out the top five sectors last week. All five of the bottom performing sectors of the markets last week are classified as risk-off sectors of the markets, meaning they are typically seen as some of the safest sectors of the markets. Maybe it was investors reading into the Fed minutes that a rate hike could be coming sooner rather than later or maybe it was just investors booking some profits, but whatever the reason, the “safest” areas of the markets declined the most last week.

Fixed income markets were negative here in the US last week as the odds of a Fed rate hike coming this year pushed higher:

Fixed Income Change
Long (20+ years) -0.98%
Middle (7-10 years) -0.46%
Short (less than 1 year) 0.02%
TIPS -0.09%

Currency trading volume was below average last week, just like the equity indexes, due to summer trading being in full swing. Overall, the US dollar decreased by 1.33 percent against a basket of foreign currencies. The strongest of the major global currencies last week was the Swiss Franc, as it advanced by 1.50 percent against the value of the US dollar. Some of the strength of the Franc could be due to the building of fears over the Italian banking system, which seems to be on very unsure footing. The worst performance of the global currencies for the second week in a row was the Australian Dollar as it declined by 0.34 percent against the value of the US dollar.

Commodities were mixed last week, as oil moved notably higher on rumors:

Metals Change Commodities Change
Gold 0.45% Oil 8.00%
Silver -1.98% Livestock -0.92%
Copper 1.80% Grains 2.44%
Agriculture 0.77%

The overall Goldman Sachs Commodity Index gained 4.48 percent last week, as Oil increased 8 percent. Much of the move in Oil continued to be due to rumors that the informal meeting of OPEC in Algiers later this month could yield an actual production freeze. A deputy Saudi oil minister last week came out with a statement saying he was unaware of any production freeze talks, which further fueled the markets into thinking the talks were actually happening, in a bit of backwards logic. No one knows for sure if talks of a production freeze are occurring or not, but one thing is for certain and that is if there is a production freeze there is no way that all of the OPEC members will be held to the deal as members of the group are notorious for cheating and circumventing agreements to try to gain market share against other members. The major metals were mixed last week with Gold gaining 0.45 percent and Silver moving lower by 1.98 percent. Copper pushed higher for the week by 1.80 percent. Soft commodities were mixed last week with Agriculture overall gaining 0.77 percent, while Livestock fell 0.92 percent and Grains advanced 2.44 percent over the course of the week.

Top 2 Indexes Country Change Bottom 2 Indexes Country Change
Merval Argentina 2.85% IBEX 35 Spain -3.05%
Shanghai Composite China 1.88% FTSE MIB Italy -4.05%

Last week saw only 26 percent of the major global markets turn in positive performance for the week. The best performing index last week was found in Argentina and was the Merval index, which turned in a gain of 2.85 percent for the week. The worst performing index for the week was found in Italy and was the FTSE MIB Index, which turned in a loss of 4.05 percent. Italian banks were the catalyst for the majority of the declines seen in the Italian index last week as there are now ongoing investigations into the financial record keeping of some of the biggest banks in Italy, on top of poor showings in the latest round of European bank stress tests. Some pundits have called the Italian banks the next major test for the EU as the looming implosion seems almost inevitable, but it seems unlikely that such a relatively small banking system like Italy has the punch to once again bring into question the EU as whole.

The VIX turned in a relatively small move last week for the second week in a row, falling only 1.82 percent for the week. With the decline last week giving back all of the gains from two weeks ago we once again find the VIX ending last week at the lowest level that we have seen since July of 2014. The current reading of 11.34 implies that a move of 3.27 percent is likely to occur over the next 30 days. Once we get through summer trading and some of the large market movers come back from summer vacations, we may see a bit of an uptick in the VIX as there are fewer and fewer reasons for the market to continue to push higher in a low volatility fashion.

For the trading week ending on 8/19/2016, returns in the hybrid hypothetical models* (net of a 1% annual management fee) were as follows:

  Last Week 2016 YTD Since 6/30/2015
Aggressive Model -0.01 % 3.77 % 8.23 %
Aggressive Benchmark -0.20 % 4.75 % -0.58 %
Growth Model -0.10 % 3.99 % 7.46 %
Growth Benchmark -0.15 % 3.82 % -0.21 %
Moderate Model -0.16 % 4.13 % 6.98 %
Moderate Benchmark -0.11 % 2.84 % 0.05 %
Income Model -0.24 % 4.55 % 7.29 %
Income Benchmark -0.05 % 1.55 % 0.24 %
S&P 500 -0.01 % 6.85 % 5.85 %

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

There was only one change to the models over the course of the previous week and that was to initiate a short (hedging position) to help protect the models in the event of a downturn in the markets. The recent rally in the markets has been running for a very significant amount of time given the general lack of positive catalysts. We are also at or very near all-time high levels across all three of the major US indexes; the good times cannot continue to roll indefinitely. At the start of last week several of my signals about the health of the markets starting to falter began to switch from green to yellow, meaning that caution is needed, but not that a large decline was directly on the horizon. I initiated an inverse position on the S&P 500 (goes up when the S&P 500 goes down and down when the S&P 500 goes up) in the Income, Moderate and Growth models as a first step toward protecting the models. The second step has yet to trigger, but can be put in place very quickly should the conditions warrant. While adding to defensive positioning last week, I was also closely watching several sectors of the markets to see if there was a good entry point, areas such as healthcare and biotechnology that are still presenting interesting investment opportunities.

 

Economic Release Calendar:

 

Mixed signals out of the manufacturing sector last week gave the markets some uncertainty over the recovery that had been seen over the previous few months. Last week was a typical summer week in terms of the number of releases, with most of the releases coming in very close to market expectations:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Negative 8/15/2016 Empire Manufacturing August 2016 -4.2 4
Neutral 8/16/2016 CPI July 2016 0.00% 0.00%
Neutral 8/16/2016 Core CPI July 2016 0.10% 0.20%
Neutral 8/16/2016 Housing Starts July 2016 1211K 1167K
Neutral 8/16/2016 Building Permits July 2016 1152K 1153K
Neutral 8/17/2016 FOMC Minutes Previous Meeting NA NA
Slightly Positive 8/18/2016 Philadelphia Fed August 2016 2 0.5

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

The economic news releases last week started on Monday with a poor reading on the Empire Manufacturing index for the month of August. Expectations had been for a low reading of 4.0, signaling that manufacturing was continuing to expand during the month of August in the greater New York City area. However, the results came in showing that a contraction in manufacturing actually occurred in the region during August. This contraction now brings into question the gains in manufacturing seen on the index during June and July. On Tuesday the Consumer Price Index (CPI) for the month of July was released and showed that prices at the consumer level, much like prices at the producer level shown two weeks ago, are almost perfectly flat, showing no sign of inflation. This lack of inflation was one of the topics brought up last week, both in the Fed meeting minutes as well as in various Fed officials’ speeches. The housing starts and building permit figures released later in the day on Tuesday came in close to expectations and largely echoed the same sentiment that was seen in the earnings results of Home Depot and Lowe’s, discussed above the earnings section. On Wednesday the US Federal Reserve released the meeting minutes from the July meeting, at which it decided not to increase interest rates, which showed a much divided Fed on the timing of another interest rate hike, discussed further in the national news section above. Last week the economic news releases wrapped up on Thursday with the release of the Philadelphia Fed Index, which showed an expansion in business activity and manufacturing in the greater Philly area during the month of August. This report seemed to contradict the Empire index released earlier during the week, leaving the markets waiting for further manufacturing data to be released in the coming weeks before deciding the current situation in the manufacturing sector across the US.

 

This week is a typical summer trading week, with the primary focus of the week being the second estimate of GDP for the second quarter of 2016. The releases that could impact the markets are highlighted in green below:

 

Date Release Release Range Market Expectation
8/23/2016 New Home Sales July 2016 580K
8/24/2016 Existing Home Sales July 2016 5.5 Million
8/25/2016 Durable Orders July 2016 3.5%
8/25/2016 Durable Orders, Ex-Transportation July 2016 0.4%
8/26/2016 GDP – Second Estimate Q2 2016 1.1%
8/26/2016 University of Michigan Consumer Sentiment Index August 2016 90.8

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

This week the economic news releases start on Tuesday with the release of new home sales for the month of July, which are expected to be slightly lower than they were in June, thanks to the slowing down in the home buying season. On Wednesday, existing home sales for the month of July are set to be released with expectations of 5.5 million units having been sold during the month, again a little lower than in June due to the cyclical buying season. On Thursday, the durable goods orders for the month of July are released, both overall orders and orders excluding transportation, which can be very volatile due to the large cost of airplanes and seemingly random buying schedules by the airlines around the world. Both of the expected order numbers, if they come to fruition, would represent a nice rebound from the contraction in orders we saw in June. If we see a second month of declines in orders it would be a negative sign for the US economy, but a positive signal for the Fed having to keep interest rates lower for longer. On Friday, the second estimate of Q2 2016 GDP here in the US is set to be released. The first estimate released a month ago posted a reading of 1.2 percent, much lower than Wall Street had been expecting. This time around, expectations are for a downward revision, but only a small one, taking the reading down to 1.1 percent. The real key in this release for determining how the market will react is the underlying reason for the change from the 1.2 percent first estimate reading. Wrapping up the week on Friday this week is the release of the University of Michigan’s Consumer Sentiment Index for the month of August (final estimate) and it is expected to have not changed much from the mid-month reading released two weeks ago. In addition to all of the above scheduled economic news releases, the markets will be closely watching the Jackson Hole Fed symposium, as mentioned above in the nation news section, as many members of the Fed will be speaking and taking part in various discussions that could impact the global markets.

 

Interesting Fact World’s fastest man is hanging up his Olympic track shoes.

 

Usain Bolt finished his final Olympic race last week, winning his ninth gold medal in nine attempts at the past three Summer Olympic Games. According to the BBC, Bolt’s combined Olympic Final running times to win those 9 gold medals are a mere 114 seconds, or slightly less than 2 minutes of running. His top speed at the Olympics was just about 25 miles per hour. If he could sustain that speed he could run the distance from the earth to the moon in a little over 404 days.

 

Source: http://www.BBC.com

 

For a PDF version of the below commentary please click here Weekly Letter 8-15-2016

Commentary quick take:

 

  • Major developments:
    • Very slow week of trading last week
    • Markets digested a lot of economic data
    • Poor PPI and retail sales figures here in the US
    • Earnings season is almost complete

 

  • Earnings season for the second quarter is now more than 91% complete:
    • Retailers are in the spotlight once again
    • Earnings growth on a year-over-year basis is -3.3 percent

 

  • China:
    • Poor import and export figures for July
    • Hopes of new government action

 

  • Europe:
    • Slower than expected growth seen
    • Germany continues to carry other countries
    • Brexit still a big unknown

 

  • Market statistics:
    • Global markets pushed higher
    • US markets saw a trifecta for the first time since 1999
    • Volume was painfully low

 

  • Technical market view:
    • All three indexes extended their upward run
    • Rally looks like it is starting to stall out

 

  • Hybrid investments strategy update:
    • No major changes to the models last week
    • Flower Foods drove a lot of volatility last week
    • Earnings season continues to drive stock performance

 

  • This week for the markets:
    • Wal-Mart earnings results
    • Everyone is waiting on the Fed meeting in Jackson Hole

 

  • Interesting Fact: How often does a 2,168 year old record fall?

 


Major theme of the markets last week: All-time highs all around

funny 8-15-16

Despite last week’s volume being some of the lowest that we have seen in a number of years, the US markets managed to make headlines, having successfully pulled off a US market trifecta. A market trifecta occurs when all three of the major US indexes make a new all-time high on the same day. This occurred on Thursday last week after months of the NASDAQ trying to catch up to the Dow and the S&P 500. Does this mean the markets will continue to move higher in perpetuity? Potentially, but the markets currently look a bit stretched out as we have yet to have a meaningful correction (for the better part of 5 years). We are more likely in the very late stages of a bull market rally than in the early stages and the risks in the current market remain elevated, even if standard measures of risk such as the VIX seem to be indicating otherwise.
US news impacting the financial markets: US news that had an impact on the US financial markets focused last week on poor economic figures as well as the dwindling announcements about second quarter earnings season. Almost all of the economic news releases released last week came in below market expectations, as both retail sales for the month of July and prices at the producer level pointed to a slowing down in the US economy. The markets have recently been very keen on the economic news releases as everyone tries to figure out when the FED is likely to increase rates. With seemingly every new economic news release, that time frame appears to be pushed further and further away. Last week it was deflationary signals out of the producer price index that showed that prices declined at the producer level during the month of July, the opposite of the 2 percent target inflation rate the Fed has set. With prices coming down, the normal action for the Fed to take, all else being equal, would be to lower the Fed funds rate in an effort to stimulate prices by pushing more money into the economic system. This price decrease combined with the no growth or contraction in retail sales (negative for retail sales excluding autos in July) also adds to the hardship being imposed on the Fed. With all of the negative economic data, the likelihood of a Fed rate increase at any time during the remainder of 2016 declined last week, as shown in the table to the right. However, we are still not seeing the chance of a rate decrease creep back into the cards, as we saw about a month and a half ago. In addition to moving with the expectations of the Fed moving on rates, last week the markets were driven by the earnings results from some of the major retailers here in the US. We are drawing ever closer to the end of second quarter 2016 earnings reporting.

fed watch 8-15-16

The start of retailers releasing their earnings occurred last week. In general, it was pretty good for both the higher-end and lower-end stores. Below is a table of the well-known companies that released earnings last week with earnings that missed expectations highlighted in red, while earnings that beat expectations by more than 10 percent are highlighted in green:

 

Dean Foods -3% Macy’s 35% SolarCity 5%
Dillard’s 3% Nordstrom 22% Sotheby’s 44%
Flowers Foods 0% Ralph Lauren 19% Tyson Foods 13%
J C Penney 67% Red Robin Gourmet Burgers -5% Walt Disney 1%
Kohls 17% Shake Shack 8% Wendy’s 11%

 

High-end retail companies easily beat market expectations during the second quarter of 2016 according to the releases that came out last week. Nordstrom, Macy’s, Ralph Lauren and Sotheby’s all beat expectations by more than 20 percent. Even the discount retailers got in on the act with JC Penney and Kohl’s beating expectations handedly. Red Robin and Dean Foods were the only two companies on the above table that missed market expectations, but the misses did not spill over into other food retailers such as Wendy’s and Tyson Foods. Flower Foods met analyst expectations for the quarter, but saw its stock price decline last week, thanks to several other factors as discussed below in the model update section of this newsletter.

 

According to Factset Research, we have seen 457 (91 percent) of the S&P 500 companies release their results for the second quarter of 2016. Of the 457 that have released, 70 percent have beaten earnings estimates, while 11 percent have met expectations and 19 percent have fallen short of expectations. When looking at revenue of the companies that have reported, 54 percent of the companies have beaten estimates, while 46 percent have fallen short. When compared to previous quarters, the figures above are slightly below the 1-year average and slightly above their respective 5-year averages, meaning the second quarter of 2016 is seeing earnings per share and revenues per share that are just okay in terms of meeting or beating market expectations. The year-over-year change in overall earnings does not look good, however, as we are seeing a year-over-year change in earnings of -3.5 percent. This is better than the expectations of -5.5 percent we saw going into the reporting season, but still represents the fifth consecutive quarter of year-over-year declines in earnings. At this point in the earnings season for the second quarter of 2016 it is becoming increasingly difficult for the numbers to change by a material amount since such a large percentage of the companies in the indexes have already reported their results.

 

This week is the last of the meaningful weeks for earnings results for the second quarter of 2016; the last of the major retailers are set to release their earnings. The table below shows the companies that have the greatest potential to move the markets highlighted in green:

 

Advance Auto Parts Foot Locker Staples
Agilent Technologies Hain Celestial Group Stein Mart
Cisco Systems Home Depot Sysco
Cree Hormel Foods Target
Deere & Co Jack Henry & Associates TJX Companies
Dick’s Sporting Goods Lowe’s Companies Tuesday Morning
Estee Lauder Ross Stores Wal Mart Stores

 

All eyes this week will be on releases from big box retailers Wal-Mart and Target, the two largest retail chains in the US. Wal-Mart, the world’s largest private employer, will likely be very closely followed for any trends the company is seeing in consumer spending, which according to the latest retail sales figures could be lower than first thought. With Wal-Mart touching so many different areas of the country and socioeconomic tranches, it has perhaps the best and most accurate data about consumer spending. Wal-Mart’s results will undoubtedly be compared to Target’s results and it is no coincidence that they release their results close to the same time as other discount retailers such as TJ Maxx and Ross. In general, higher-end retailers seemed to have had a pretty good second quarter, which is likely what occurred at the lower-end retail stores as well. With that in mind, results from these discount retailers will likely be a little better than anticipated by the markets. Other retail-focused companies the markets will be watching very closely this week are Home Depot and Lowe’s, as the two are the main home improvement stores in the US and provide some insight into the average American’s thoughts about the US real estate market. In general, people will fix up and renovate their homes if they think they will be able to get more from selling their homes in the future with the changes than if they did not improve their homes. If people think the housing market will be going down in the near term, they typically hold off on making many improvements as they are unsure about their future returns on the work being done.  The final company that will be closely watched by Wall Street this week is Deere & Co as the company makes a wide variety of high-dollar machinery. We will have to see if the slowdown in various parts of the world has hurt Deere’s bottom line or if consumers are still purchasing the company’s equipment.

 

Global news impacting the markets: Global news last week was very mixed as the markets around the world focused on economic news releases and data points, trying to gauge the chance of further central bank stimulus around the world. In China, the data was very mixed as exports were shown to have increased by 2.9 percent in the month of July when compared to one year prior. However, this seemingly positive news was more than offset with the import data figures released at the same time, which showed imports declining by 5.7 percent on a year-over-year basis. Both of the above figures are on a local currency basis. When looked at in terms of constant US dollars, exports decreased 4.4 percent, while imports dropped 12.5 percent. Either way you look at the import and export data out of China, it is very difficult to see how the economy overall is increasing at the 6 plus percentage rate the country is targeting in 2016. In addition to weak import and export figures, China also released poor industrial production figures for the month of July, as manufacturing and mining came in weaker than expected. The Chinese stock market moved higher last week, however, as investors seemed to think that all of the poor economic data released would push the People’s Bank of China (PBOC) to take further action to try to stimulate the economy, either through an interest rate cut or some other stimulus measure. China was not the only part of the world that saw weakness in its data; Europe also released some weaker than expected data.

 

Last week Eurostat released its latest reading for the GDP growth rate in the Eurozone for the second quarter of 2016, which came in at 0.3 percent, only half of the growth rate it saw during the first quarter, which was 0.6 percent. Digging a little deeper into the data released by Eurostat last week, it is easy to see that Europe still has the problem of a two-speed growth rate economy with Germany expanding and growing, but finding that carrying countries such as France and Italy has become increasingly strenuous. In the same report from Eurostat, the group raised the possibility of further downward revisions to future GDP growth rates for the region overall. Remember that the data for the second quarter that was released last week was almost fully representative of the context preceding the Brexit vote. Adding the uncertainty over what will happen with the Brexit going forward could do nothing but lower the expected growth rates all around Europe.

 

Technical market review:

 

Last week we saw something occur that had not happened since late 1999. According to Bespoke, it was December of 1999 that we saw all three of the major US indexes close at new all-time high levels, as they did on Thursday of last week. The charts below show each of the three major indexes, plus the VIX, drawn with green lines. The blue lines represent the closest level of support for each of the indexes, established by points that the markets have touched in the past prior to bouncing higher. The red line on the NASDAQ depicts the closest resistance level, as represented by points that have been tested on each index several times in the last 6 months. There are no red lines on the Dow of the S&P 500 charts as both indexes continue to push higher into uncharted waters. For the VIX, the red line remains the rolling 52-week average level of the VIX.

4 charts combined 8-15-16

I kept the above charts the same in terms of the horizontal lines drawn on each chart as volume was so low last week that I will give the indexes one more week to confirm the new trading ranges that appear to be forming by the movements of the past two weeks. In general terms, all three of the indexes are exhibiting about the same level of technical strength and thus there is no clear leading index. While the three major US indexes pushed a little higher last week, so too did the VIX, which moved off of the lowest levels that we have seen in the past two years last week, ending the week slightly higher than it started, gaining 1.4 percent.

 

Market Statistics:

 

Last week was a typical summer trading week in terms of movement for the markets as they were generally lacking direction with were very few developments that had noticeable impacts on the overall markets:

 

Index Change Volume
NASDAQ 0.23% Below Average
Dow 0.18% Way Below Average
S&P 500 0.05% Below Average

 

Volume last week was in full summer trading mode, but even this does not fully explain the very low volume seen on the Dow. The volume seen last week for the Dow was the lowest weekly volume that we have seen since Christmas week 2013. Much of this lack of volume is being attributed to the summer trading season as well as the lack of any major news, earnings or new announcements, about any of the Dow 30 component members. While both the NASDAQ and the S&P 500 also experienced below-average levels of volume last week, neither was as far below on a relative basis than the Dow. With such low volume on the broad indexes here in thse US last week, one has to take the market movements that were seen with a grain of salt as there were very few investors participating in the movement.

 

When looking at sectors, the following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change Bottom 5 Sectors Change
Oil & Gas Exploration 2.20% Financial Services -0.95%
Energy 1.96% Basic Materials -1.01%
Industrials 1.78% Regional Banks -1.47%
Natural Resources 1.70% Biotechnology -1.60%
Consumer Staples 1.49% Telecommunications -2.40%

With oil prices moving by more than six percent last week it was not surprising to see that Oil and Gas Exploration and Energy took the top two spots in terms of sector performance; any time oil has a big week these are the two sectors that see the greatest benefit. Consumer Staples making the list of the top five performing sectors last week was interesting as this sector is rarely in the top five during a week that sees the overall indexes move higher. Consumer Staples is typically a very defensive sector and performs the best on a relative basis during weeks when the markets push lower. On the negative side of sector performance last week, Telecommunications and Biotechnology took the bottom two spots as earnings reports by several key players in each sector hurt overall performance. Financial related sectors made up two of the five bottom performing sectors as the economic data seems to be signaling more weakness on the horizon in the US economy.

Fixed income markets were positive here in the US last week as the odds of a Fed rate hike coming this year pushed lower:

Fixed Income Change
Long (20+ years) 1.51%
Middle (7-10 years) 0.45%
Short (less than 1 year) 0.01%
TIPS 0.33%

Currency trading volume was below average last week, just like the equity indexes, due to summer trading being in full swing. Overall, the US dollar decreased by 0.52 percent against a basket of foreign currencies. The strongest of the major global currencies last week was the Swedish Krona, as it advanced by 1.59 percent against the value of the US dollar. The worst performance of the global currencies for the second week in a row was the British Pound as it declined by 1.26 percent against the value of the US dollar, thanks to continued uncertainty over the future of the UK in light of the Brexit vote having taken place and article 50 being invoked at some point around the end of 2016.

Commodities were mixed last week, as oil moved notably higher on rumors:

Metals Change Commodities Change
Gold -0.12% Oil 6.49%
Silver 0.05% Livestock 0.32%
Copper -1.17% Grains 0.60%
Agriculture -1.05%

The overall Goldman Sachs Commodity Index gained 2.69 percent last week, as Oil increased 6.49 percent. Much of the move in Oil, which officially entered a bear market two weeks ago, was due to rumors that the informal meeting of OPEC in Algiers later this month could yield an actual production freeze. This seems like a long shot, but the rumor is all the markets seemed to need to move higher. Remember that back in February a rumored production freeze made oil prices gain more than 40 percent in a short period of time, ending what had been an 18-month bear market in oil. If OPEC can get the price of oil to increase by just starting a rumor about a production freeze it could be very interesting to watch the oil market react if a production deal was actually reached. The major metals were mixed last week with Gold falling 0.12 percent and Silver moving higher by 0.05 percent. Copper pushed lower for the week by 1.17 percent. Soft commodities were mixed last week with Agriculture overall falling 1.05 percent, while Livestock advanced 0.32 percent and Grains advanced 0.60 percent over the course of the week.

Top 2 Indexes Country Change Bottom 2 Indexes Country Change
Nikkei 225 Japan 4.1% OMX Copenhagen Denmark -1.9%
DAX Germany 3.3% Merval Argentina -1.5%

Last week saw 93 percent of the major global markets turn in positive performance for the week. The best performing index last week was found in Japan and was the Nikkei 225 index, which turned in a gain of 4.1 percent for the week. Maybe the latest round of Abenomics could actually help Japan, even if it is highly unlikely to do so. The worst performing index for the week was found in Denmark and was the OMX Copenhagen Index, which turned in a loss of 1.9 percent.

The VIX turned in a relatively small move last week, gaining only 1.4 percent for the week. The move helped push the index off of the lows of 2016, but not by much as the VIX remains at very low levels. The current reading of 11.55 implies that a move of 3.34 percent is likely to occur over the next 30 days. As we get closer to the end of the year, if the Fed projects that it is no longer considering increasing rates by the end of the year, we could see the VIX move upward as this would be an admittance of weakness in the US economy, weakness that is currently not being priced into the movement of the markets over the coming 30 days, which is the time length that the standard VIX measures.

For the trading week ending on 8/12/2016, returns in the hybrid hypothetical models* (net of a 1% annual management fee) were as follows:

  Last Week 2016 YTD Since 6/30/2015
Aggressive Model -0.73 % 3.78 % 8.24 %
Aggressive Benchmark 1.18 % 4.96 % -0.39 %
Growth Model -0.33 % 4.09 % 7.57 %
Growth Benchmark 0.92 % 3.98 % -0.06 %
Moderate Model 0.03 % 4.30 % 7.15 %
Moderate Benchmark 0.65 % 2.95 % 0.16 %
Income Model 0.21 % 4.80 % 7.55 %
Income Benchmark 0.33 % 1.60 % 0.29 %
S&P 500 0.05 % 6.85 % 5.86 %

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

There were no changes in the hybrid models last week as they remain defensively positioned in light of the recent market movements. The largest driving force (more than 60 percent of the downside) in the models last week came from a single stock, Flower Foods, as the company released its second quarter earnings results and updated its guidance for the full year 2016. Second quarter earnings for Flower Foods came in as expected, hitting analysts’ expectations exactly, but the company did lower its guidance for the remainder of the year as it continues to struggle with fully integrating the Hostess Wonder bread lines it purchased from a bankruptcy auction a few years ago. The company sees softer demand and increased promotional costs for the second half of 2016 as it tries to grow into more of the all-natural lines of its business, areas that take a lot more advertising dollars than its well established brands because of competition from regional, smaller bakers. The company will still easily be profitable in 2016, but is on my watch list to see how management performs in the face of adversity. If the company makes many missteps going forward, it will be sold and a new position initiated in the stock models, but given management that has shown strong fortitude in the past, the opportunity to succeed remains significant and continued investment seems the most prudent course of action.

 

Economic Release Calendar:

 

Last week was a slow, normal week regarding the number of releases, but the releases that came out were almost all below market expectations:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Slightly Negative 8/12/2016 PPI July 2016 -0.40% 0.00%
Slightly Negative 8/12/2016 Core PPI July 2016 -0.30% 0.20%
Negative 8/12/2016 Retail Sales July 2016 0.00% 0.40%
Negative 8/12/2016 Retail Sales ex-auto July 2016 -0.30% 0.20%
Neutral 8/12/2016 University of Michigan Consumer Sentiment August 2016 90.4 90.2

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

Friday was the only day of the week last week that held any meaningful economic news releases with the producer price index (PPI), retail sales and the latest consumer sentiment index all being released. Up first on Friday was the PPI for the month of July, which came in at a -0.4 percent overall and a -0.3 percent for the core PPI components. With prices at the producer level declining it presents a very difficult situation for the Fed as it would like to be increasing rates, but that typically places downward pressure on prices. The retail sales figures released on Friday also did not make the Fed’s decision as to when to increase rates any easier, as sales were perfectly flat overall and declined by three tenths of a percent when auto sales were removed from the calculation. Both of these figures had been expected to show small, but still positive readings. Without an increase in spending, the US economy is likely to slow down even more, which begs the question of whether the Fed should even be considering increasing rates or be thinking more about when to lower rates back to the zero bound. The final release of the week came in the form of the University of Michigan’s Consumer Sentiment index for the month of August, which came in with a reading of 90.4, while the market had been expecting 90.2. With the release being so close to market expectations there was little reaction from the markets.

 

This week is a typical summer trading week, with the primary focus of the week being the Fed minutes from the previous meeting. The releases that could impact the markets are highlighted in green below:

 

Date Release Release Range Market Expectation
8/15/2016 Empire Manufacturing August 2016 4
8/16/2016 CPI July 2016 0.00%
8/16/2016 Core CPI July 2016 0.20%
8/16/2016 Housing Starts July 2016 1167K
8/16/2016 Building Permits July 2016 1153K
8/17/2016 FOMC Minutes Previous Meeting NA
8/18/2016 Philadelphia Fed August 2016 0.5

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

This week the economic news releases start on Monday with the release of the Empire manufacturing index for the month of August, which is expected to post a solid gain with a reading of 4, well above the all-important level of zero. If we see this release dip below zero it could be a problem for the overall manufacturing sector here in the US. On Tuesday, the consumer Price Index (CPI) for the month of July is set to be released with expectations of a very low reading of inflation. If these releases are anything like the PPI released last week we could see both dip into negative territory, which would increase the pressure on the Fed to not raise interest rates. Also released on Tuesday are the latest housing starts and building permit figures, both for the month of July and both expected to show a reading over 1.1 million units during the month. If these expectations are realized it would be a positive development for the overall health of the housing market here in the US. On Wednesday the meeting minutes from the July meeting of the FOMC are set to be released, but as usual all of the pertinent information is already known so it is highly unlikely that we see something new in the minutes that the markets actually react to. Wrapping up the week on Thursday this week is the release of the Philadelphia Fed index, which will be closely watched to see if the results fall in line with the Empire Manufacturing index released earlier during the week. These two manufacturing related indexes could move the overall markets for the week if they either both beat or miss expectations. In addition to the scheduled economic news releases there are also four members of the Federal Reserve giving speeches throughout the week that could hold new information about the current thinking regarding the timing of the FOMC increasing rates.

 

Interesting Fact It is not very often that a 2,168 year old record falls.

 

On Thursday night last week, US swimmer Michael Phelps won his 13th individual Olympic title, breaking a record that had stood since 125 BC and was held by legendary runner Leonidas of Rhodes. The record was once thought to be a record that could not be touched in the age of modern Olympics because of how much a single athlete would have to dominate a sport over an extended period of time. Leonidas, however, never won any medals as the prizes for the Olympics during his time included an olive wreath, glory and a few large jars of olive oil.

 

Source: www.npr.org