Stocks Rally Sharply On Tuesday
The stock market had an amazing day on Tuesday as the S&P 500 was up 1.67%. All the sectors were in the green except real estate and utilities. Energy was the big winner as it was up 3.32%. Tech was up 2.48%. The reason stocks did so well was President Xi gave a speech in which he stated he wanted China to open up trade; he pledged to lower Chinese tariffs on automobiles. This speech can either be thought of as a reiteration of previous proposals or a sign that cooler heads will prevail in the trade dispute between China and America. I don’t know for sure what to make of this speech, but the market liked it because it checked the boxes of Trump’s demands. China will be strengthening its protection of intellectual property, it doesn’t seek to have a trade surplus, it will open up access to its financial sector, and ease restrictions on foreign ownership of firms in the auto, shipbuilding, and aerospace sectors.
Some analysts might be unsure of what this speech means, but the market works on probabilities. If the chance of a trade war declined by 15% because of this speech, stocks will reflect that by going up. If this entire battle is squashed, then I think the S&P 500 can reach a new all-time high. The market is also being hurt by weak economic data, but tariffs ending would improve the outlook for trade growth and lessen economic uncertainty.
Overview Of Macroeconomic Trends
The chart below is a great depiction of the economy since 1992. Obviously, this is just one index, so it doesn’t capture everything. The macro implied volatility index shows that the economy was relatively stable from 1992 until 2002. There were some modest spikes, but nothing major. The recession in the early 2000s was very shallow. Then from 2004 until 2007, Alan Greenspan’s easy money policy crashed volatility which eventually led to the financial crisis since his policies helped stoke the housing bubble. The massive rate cuts were from 2000 to 2004 which is right when the housing bubble heated up. Therefore, his policies amplified the bubble instead of suppressing it. Monetary policy gets part of the blame for the huge bust in 2008.
The chart shows that now the macro implied volatility is relatively low and stable. The box is lower and wider, but it’s similar to the 1990s. The Fed certainly isn’t about to make a mistake on policy being too easy because it is raising rates and shrinking its balance sheet. The only question now is whether the low rates from 2009 until 2015 caused any financial bubbles. The sharp rate hikes exacerbated the problem in the 2000s. There was 4.25% of rate hikes from May 2004 to August 2006. Poor choices for years can’t be solved with a quick turnaround. In fact, it made the situation worse because people who took out adjustable rate mortgages had to pay higher rates. While rates were lower for longer in this cycle and there was QE 1,2, and 3, this hike cycle has been much slower. In October 2015, the Fed funds rate was 12 basis points and now it’s 1.51%.
No Other Volatility
Obviously, volatility subsided after the big rally on Tuesday, but it’s still worth noting that the stock market was the only asset class which saw a sharp increase in volatility in the past 2 months. As you can see, the dollar, commodities, and extended duration treasuries haven’t had much action. The fact that this correction has been quarantined to only effect stocks is good news because it means other investors don’t think the fundamentals have changed. Stocks could be right about seeing trouble, but I am siding with the other markets because I am optimistic on earnings and I think the economy will recover in Q3.
Facebook Unscathed By The Congressional Hearing
It’s usually a bad sign when the CEO of a company, in this case Mark Zuckerberg, is being interrogated by the Senate. However, this hearing went perfectly for Mark Zuckerberg because none of the questioning phased him. The three main reasons the hearing went well are that Mark was well trained and handled the questions in a calm manner, the Senators didn’t have an understanding of what Facebook does, and each Senator was only given 5 minutes to ask questions.
You can actually make the argument that this was extremely positive news for Facebook because Congress is far from regulating the firm. Furthermore, in one of the answers Mark Zuckerberg stated that there hasn’t been a dramatic drop off in users. There has simply been a lot of users telling their friends to delete their account. The only thing this shows is that consumers are losing faith in Facebook. However, trust doesn’t affect the firm’s bottom line if people keep using their accounts. Some suggest that the government needs to regulate Facebook because its platform is so addictive that people will go against their best interests by using the service.
Facebook stock was up 4.5% on the day. This could be the start of a recovery in the name. The stock is up 8.42% from the recent low. It’s only down 14.53% from the record closing high. If Facebook regains its footing and hits another new record, this is a great sign for the overall market. The FAANG stocks will once again be leaders which drive the S&P 500 to new heights.
Conclusion
Worries about Facebook and trade war vanished on Tuesday which is why stocks roared higher. Bullish investors are hoping this provides momentum to finally get out of this range the market has been in for 2 months. The S&P 500 is up 2.94% from the trough of this range and it’s down 7.52% from the peak. I’m not expecting a rally to make new highs soon. The next obvious positive catalyst in the next few weeks is earnings season which looks like it will be great.
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