Stocks Get Closer To The January Record
The S&P 500 increased 0.4% on Tuesday, which means it only needs to rally 2.2% to hit the record high set in January. The S&P 500 is in great shape technically to finally break the record high because it is within striking distance, but it isn’t overbought. The perfect scenario is a slow grind higher, not big swings in both directions which end higher. The CNN Fear and Greed index is only at 49 even though the market is up 3.35% month to date. July has been the best month since January. The market now is up 5.08% for the year which puts it in the range where I begin to be neutral. I’m still bullish on the short term though because I see a big breakout coming as the S&P 500 follows the Nasdaq and the Russell 2000 higher.
The Nasdaq increased 0.63% and hit a record high despite the 5.2% decline in Netflix. After falling double digits early in the day, the fear of missing out grew large enough to push Netflix stock up. The firm has a track record of growing net adds, so investors are giving its weak results and low guidance a pass. The firm has given weak guidance in the past and ended up reporting great results. The management team doesn’t have great visibility. The Russell 2000 was up 0.52%, but it is slightly more than 1% off its record high set on June 20th.
Strong Dollar Hurting Earnings
The tariffs have been moving markets for the past few months, but the strong dollar has actually had a bigger impact on earnings so far. That makes sense because most of the tariffs which would do serious damage to the economy have been only discussed, not enacted. The strong dollar has played a big role in the Russell 2000’s outperformance over the S&P 500 and the Dow. As you can see from the chart below, the number of companies saying currency had a negative impact on earnings is 12 times higher than the number of companies complaining about tariffs.
Currency is always an issue for some companies because the situation is never perfect, but the strong dollar will wreak havoc on many more firms if it keeps going higher. The latest price of the dollar index is $95.10 which is near this bull run’s high. Firms are making the entire financial media look silly by not citing tariffs as a big issue. One caveat is that the complaints about raw materials costs could be related to the tariffs because the tariffs led to increases in aluminum and steel prices. Either way, I think I have slightly overexaggerated the risk tariffs pose. If no extreme measures are acted upon, the S&P 500 can get to a record high even with the status quo of these trade skirmishes.
Treasuries Sell Off Again
Powell spoke on Tuesday. The market felt his speech reaffirmed the current policy guidance. With the stock market near its record high, it’s highly likely the Fed will hike rates 2 more times in 2018. The hikes will occur in September and December. The current Fed funds futures show a 62.9% chance of at least 4 hikes this year. Remarkably, there’s a 5.2% chance of at least 5 hikes in 2018. I have never been more certain that the curve will invert in the next 5 months.
The chart below shows the 3 month Treasury bill hit a 2% yield for the first time since June 2008. The 10 year yield was up about a half of one basis point on Tuesday to 2.8655%. The 2 year yield was almost up 2 basis points to 2.6154%, meaning the curve flattened dramatically. The latest difference between the 2 yields is 24.81 basis points. The yield curve signals to me that the economic weakness coming in the second half of 2018 could be the beginning of the end of this business cycle.
Even though the yield curve flattened, the financials were up 0.15% as Bank of America rallied 0.77%. Its stock is now up 8.03% since July 3rd. This rally in the financials proves my point that the market would need the sector for it to set new records. The best performing sector on Tuesday was materials which was up 1.32% and the worst performing sector was real estate which was down 0.63%.
Johnson & Johnson Reports Decent Earnings
One of the biggest winners in the S&P 500 on Tuesday was Johnson and Johnson which reported good earnings. The stock was up 3.54% after having a tough first 5 months of the year. Adjusted earnings were $2.10 per share which beat estimates by 3 cents. Revenue was $20.8 billion which beat estimates for $20.39 billion. The consumer business was the biggest laggard as revenues were $3.5 billion which is a 0.7% year over year increase. This missed expectations for $3.59 billion. Cancer drugs saw a 20% increase in revenues to $10.4 billion which was above estimates for $9.95 billion. Oncology drug sales were up 42.2% to $2.46 billion. Medical device sales were up 3.7% to $7 billion. Another weakness of the company is the J&J baby care line which saw revenues decline 7.7% worldwide and 21% in America.
The firm is launching a new baby care line in August. I think the firm has a mixture of divisions working extremely well and divisions flailing. This makes for a mostly flat stock. The rally was justified because the stock is down so much in the past few months. From its peak to trough this year, it almost fell 20%. If you believe the consumer division and the baby care line can have a turnaround, buy the stock. Or else, just sit this one out. Because the firm has nearly a $350 billion market cap, it’s important for the S&P 500 that it does reasonably well. It’s safe to say this quarter won’t push the stock back to the lows of the year.
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