Uncertainty On Wall Street - Most In At Least 20 Years

Big Rally On Trade News

Stocks rallied sharply on Thursday as they got close to the high end of their recent range. The S&P 500 was up 1.3%. It’s now only down 1.65% from its record high in July. We’ve had a nice combination of positive news on trade, the Hong Kong protests, and Brexit. It seems like just the prospect of a trade deal will get the S&P 500 to a new high. I’m basing that on the fact that there is no chance of a deal in the next few weeks and stocks are so close to a new record. Hope springs eternal.

Thursday’s Action Reviewed

Let's review the action of the day in markets and then describe the latest trade news. Nasdaq was up 1.75% because tech stocks like the idea of a trade deal. Russell 2000 was up because the financials rose due to the selloff in treasuries. VIX fell 1.06 to 16.27. The market just needs a couple more positive days to send the VIX to the low teens which would confirm the correction is over. We are very close to that moment.

CNN fear and greed index rose an amazing 11 points to 39. It’s at the high end of the fear category. There were a bunch of changes which isn’t surprising given the big movement. The difference in stock and bond performance went from neutral to greed. There was a big selloff in bonds. S&P 500 versus its 125 day moving average went from fear to greed. Put to call ratio went from extreme fear to fear. Finally, the net new 52 week highs and lows on the NYSE went from extreme fear to fear.  

Financials and tech had a good day. They were the 2 biggest winners as they increased 1.9% and 2.16%. It was a true risk off day as treasuries sold off along with utilities, real estate, and consumer staples. Those sectors fell 1.19%, 0.94%, and 0.73%. Those were the only losing sectors.

Much Confusion On Wall Street

Stock market sentiment is far from euphoric even though stocks have done well. If you tell a bear there is pessimism on Wall Street, they will point to the market’s performance and tell you that you are completely wrong. AAII sentiment survey shows differing results. In the investor sentiment survey, there were 39.5% bears. 

Meaning, the percentage of bears has been above 39% for 5 straight weeks which is the longest streak since late 2012. That’s the same situation the University of Michigan sentiment survey is in as it had the biggest drop since December 2012. That shows how in tune that index is with the stock market. On the other hand, investment advisors aren’t bearish. Obviously, they get paid to be bullish, but on an apples to apples basis, they are less bearish now than in late 2012. Back then, 28% were bearish and now 18% are bearish.

There is a wide array of forecasts for the S&P 500’s year-end performance. As you can see from the chart below, the standard deviation of year-end predictions for the S&P 500 is the highest in at least 20 years. Standard deviation was very high in 2001. I’m not sure when this calculation starts in each September. I’m guessing the 9-11 attacks on the twin towers caused the uncertainty in 2001. Current uncertainty in 2019 is caused by the trade war and economic slowdown. If the trade war gets worse, there can easily be a recession. And if there is a trade deal, 2020 can get off to a great start.

Big Selloff In Treasuries

Optimism on trade caused a big selloff in treasuries in a move that was overdue. As you can see in the chart below, the 10 year yield started the day at about 1.47%. It’s now at 1.58%. 2 year yield started the day at about 1.43% and it’s now trading at 1.54%. The curve is still normal, but very flat. We want it to stay flat to avoid a recession. A 2.4% selloff in the TLT was the largest 1 day decline since the 2016 presidential election. This is what happens when an overcrowded trade sees new flow go against it.

An 11% gain in the TLT in August was the largest 1 month gain since September 2011. As you can see in the chart below, the TLT has had an amazing run. If the index sees a mean reversion, there will be 2 handle on the 10 year yield very shortly. Since the short end of the curve sold off, the odds of at least 3 more rate cuts this year fell from 46% to 31.4%. I see one cut in September; I have no forecast for October and December. That’s because a trade deal could take any more cuts off the table and I’m predicting a deal by December 15th.

China & America Set Up A Meeting

Big news on trade that sent stocks higher on Thursday was that Chinese top trade negotiator and U.S. trade representative Robert Lighthizer had a phone call in which the two agreed to another round of trade negotiations in early October. Consultations will be made in mid-September for the meetings. This situation has been repetitive. After every new round of tariffs is announced there are new negotiations.

It’s surprising to see stocks rally this much on the news considering how close they are to a new record high and how far away the 2 sides are from a trade deal. Even though I’m predicting a deal within the next few months, the fact that there are talks should be a given. The two economies are about to be hurt by this next round of tariffs. 

Neither side wants a trade war to severely impact their economies in 2020. If there is news that the talks are going well in October, stocks will hit a new record high. This news tells us another thing we already pretty much knew. There won’t be a trade deal in September. This latest round of tariffs will be in effect for at least a few weeks. A tax rate increase from 25% to 30% on $250 billion in Chinese goods that starts in October will also happen. 

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