Another Day Where Big Caps Are Flat & Small Caps Rally
Once again, the S&P 500 was flat as it increased just 3 basis points on Tuesday. The only interesting aspect of the trading session is that stocks rose 0.32% in the last 5 minutes. It closed at the high of the day. It was like déjà vu for markets because treasuries sold off, small cap banks rallied, and energy stocks rallied.
Nasdaq fell 4 basis points and the Russell 2000 rose 1.23%. Banks like when rates rise. KBW small bank index rose 1.88%. It’s up an astounding 10.39% since August 27th. It went from up 1.39% year to date to up 11.92%. My original recommendation to buy the index at the start of the year doesn’t look as terrible now.
On Wednesday WTI oil increased 0.8% to $57.87 which continued the solid run it has been on in the past few weeks. Oil was at $51.09 as recently as August 7th. It’s not up enough to have a significant impact on September headline inflation, but it will be worth monitoring if it gets above $60. Oil rose because the API report showed crude inventories fell 7.2 million barrels to 421.9 million barrels which was below the consensus for a 2.7 million barrel decrease.
Even though oil prices fell on Tuesday, the energy sector was the best performer as it increased 1.29%. Second best was the industrials which rose 1%. That’s despite the Markit report showing the industrial output index fell to its weakest level since April 2016.
Worst sectors were real estate and consumer staples. Real estate doesn’t like increasing yields. It’s interesting that tech fell 0.49% because Apple rose on its product launches. XLF underperformed the small banks again as it increased 0.4%. VIX fell 7 basis points to 15.2 and the CNN fear and greed index rose 10 points to 55 which is neutral. Regardless of whether the market hits a new record soon, the correction is over.
Value Destroys Momentum
As you can see from the chart below, on September 9th the 1 day change in momentum divided by value stocks was the worst in over 6 years. It’s not because low PE multiple names are getting capital. It’s simply because the financials and energy have been rallying. There has been a massive selloff in treasuries as the dam has finally broken. Oil has done well recently. Higher oil increases inflation expectations which increases yields.
Massive Selloff In Treasuries
Investors wrongly predicted a selloff in treasuries a couple times before this successful prediction occurred. The trade went too far in one direction. Interestingly, Jamie Dimon recently stated JP Morgan is preparing for 0% rates. That might be a great contrarian signal as he called for 5% rates literally 13 months ago. When it seems safe to make a call because everything is pointing in one direction, it’s actually the most dangerous. Tough calls will bring you the most profits.
10 year yield increased 8 basis points on Monday and 9 basis points on Tuesday. That’s a remarkable 2 day run. There hasn’t even been major news released. Some say treasuries rallied because of fears the ECB won’t meet expectations for the return of QE. I think it’s because of the strong wage growth in Friday’s BLS report. And because the trade simply went too far. Treasuries went in 1 direction from the top in yields last fall. 10 year yield is now at 1.72% which is 29 basis points above its recent low.
2 year yield also rose 9 basis points on Tuesday. It’s now at 1.66% which is 6 basis points below the 10 year yield. It needs to keep rising to make sure the curve doesn’t normalize which would be consistent with a recession. There is now only a 91.2% chance of a rate cut next Wednesday. It’s still going to happen, but now the market expects less dovish guidance. There’s a 23.6% chance the Fed is done cutting for the year after the September cut. There was 14.1% chance of that as of September 3rd.
A weird aspect is that investors previously wanted the Fed to cut rates to normalize the curve. Now that an inversion has occurred, steepening would signal a recession. Rate cuts would be a problem for that signal. I don’t expect a sharp steepening because the market already sees 1-3 more cuts this year. Obviously, a steepening doesn’t guarantee a recession, but it’s something the bulls should want to avoid.
Finally, the 30 year yield increased 8 basis points on Tuesday. It’s now at 2.2% which is 30 basis points above its recent low.
Apple Aggressively Prices Its New Products
Apple launched its iPhone 11, iPhone 11 Pro, Watch 5, Apple TV+, and Apple Arcade on Tuesday. This caused its stock to rise 1.18%. It’s about $11 from its record high. I expect that record high to be reached on the heels of this presentation. Big takeaways here are the price points of iPhone 11 and Apple TV+. Apple realized its mid-tier phones needed to compete well because that’s what many consumers desire.
If a $700 phone does 90% of what a $1,000 phone does, consumers will go with the cheaper option. iPhone 11 costs $699 instead of $749 which is what iPhone XR and iPhone 8 launched at in the past 2 years. Secondly, Apple TV+ only costs $4.99 per month.
New device owners will get 1 year for free. Launching at a low price and slowly investing in new shows and raising the price makes sense. Thirdly, with the launch of Series 5, Watch Series 3 only costs $199 which will encourage more customers to try the product and potentially upgrade.
A big risk Apple faces is anti-trust related as the NY Times recently did a story showing that Apple is boosting its own apps in its App Store. Issue isn’t about the potential fine. It’s that when Apple lowers its apps in its search ranking, the apps might do worse. Services revenue can suffer.
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