The Rally That Never Ends

Stocks Increase On Earnings & Economic Data

Stocks increased yet again on Thursday as this has been a great start to 2020 for the market. There were some earnings reports and a few economic reports that must have pleased investors. The retail sales report wasn’t bad or great. Maybe that’s enough to satisfy investors. The jobless claims and Philly Fed reports were very strong. The Housing Market index was strong too, but it fell slightly. Based on my fundamental analysis of the economy and earnings, I’m bullish, but valuations and the recent extreme momentum have scared me away. I have been too bearish this year.

The S&P 500 rose 0.84% to another record high. It’s up 2.66% year to date. It’s on pace to have a better year than last year which I have previously said was impossible. It’s almost up 4% which was my end of year target. The CNN fear and greed index is making a mockery of itself as it increased 3 points to 89 which is extreme greed. Commentators who stated extreme greed is normal are now taking victory laps. It’s an amazing thing to experience. As of Wednesday’s close, the 14 day RSI was at 70.35. I think it is close to 73 after Thursday’s gain.

Interestingly, the AAII investor sentiment survey showed the percentage of bulls increased 8.8% to 41.8%. That’s 3.8% above average. It’s obviously not surprising that there are more bulls than average. It’s not even that surprising the percentage jumped so much. What’s surprising is during one of the sharpest rallies in recent memory, there were less bulls than average (last week). This indicator has been sobering because it has mostly suggested in the past few months that there hasn’t been euphoria. This week, the burst in bulls mostly came from those who were neutral as the neutral percentage fell 6.4%. The bearish percentage fell 2.4 points to 27.5% which is 3 points below average. This indicator suggests there is some excess optimism, but nothing to warrant selling stocks.

With stocks doing very well even though they have an above average forward PE multiple, there are plenty of explanations as to why they should rally. These explanations could be because of bias, but they could be accurate. As you can see from the chart below, some believe stocks should have a higher PE multiple because credit spreads are tight and interest rates are low. Personally, I don’t see the 10 year yield getting to 5% at any point in the next few years. It might not even be able to get to 4%. However, credit spreads can widen if financial conditions are stressed. That could cause PE multiples to shrink. As I have mentioned previously, if Sanders does well in the early elections, it could spook the market.

Review Of Thursday’s Action

This has been an amazing run for stocks, but the lack of volatility hasn’t exceeded 2018 yet. The S&P 500 hasn’t risen or declined 1% or more in 66 trading days. In the past 24 years, there have been 2 longer streaks. In October 2018, there was a streak of 74 days and in January 2018, there was a streak of 94 days. I think it’s highly unlikely this streak surpasses the one ending in January 2018. It’s interesting that after both streaks there were sharp corrections.

The VIX fell 10 basis points to 12.32. It seems to have had a 12 handle forever. The Russell 2000 was up 1.36% as it hit a new 12 month high. It’s very close to a new record. It’s only down 2% from its August 2018 peak. 2 more rallies like Thursday would bring a new record. The Nasdaq was up 1.06% as it is up an outstanding 4.29% year to date. The rally in large cap tech stocks has been awe inspiring. Apple was up 1.25%, Alphabet was up 0.26%, and Microsoft was up 1.83%. Alphabet is now worth over $1 trillion. I remember when people were discussing which would be the first to hit $1 trillion and now all of those firms are above $1 trillion and Amazon is as well. As you can see from the chart below, the top 5 firms in the S&P 500 are 17.3% of its total market cap. Apple stock is almost worth as much as the entire Australian stock market.

Every sector was up. The best performers were technology, and industrials which increased 1.4% and 1.01%. The 10 year yield doesn’t fully buy into the theory that the economy will see a growth acceleration as it is only at 1.82%. The 2 year yield is at 1.55% and the odds of a rate cut this year are 55.5%. I think it’s weird that there is a 13.3% chance the Fed hikes rates on January 29th. I can’t imagine that happening.

Update On Q4 Earnings Season

As you can see from the chart below, earnings breadth has weakened within the NYSE. The percentage of NYSE securities with declining earnings has gone up from about 30% to about 45%. That increase is like the increases in the prior 2 slowdowns in this expansion. The top chart misses the downtrend in Q4 2018. That reflected the weakness in earnings. Stocks are up now because 2020 earnings will be better.

So far, 37 firms have reported Q4 earnings. 76% of them have beaten EPS estimates and 62% beat sales estimates. Aggregate earnings are down 4.4%. EPS growth is 2.9% and sales growth is 3.5%. As you can see from the table below, EPS estimates have been steady since the start of the year as firms start to beat estimates. Q4 EPS growth was always expected to be positive according to The Earnings Scout. Their data will end up showing between 3% and 5% EPS growth. It’s good to see that since the start of the year, Q1 growth estimates are up 11 basis points, Q2 estimates are up 48 basis points, and Q4 estimates are up 8 basis points. Q1 estimates will probably start to fall after earnings season. It would be great to see final EPS growth in the mid single digits.

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