We’ve been here before, and not too long ago.
The S&P 500 index finished Friday at 2,978 after nudging about 1% above the top of the whippy August trading range. On July 31, the index closed at 2,980; four weeks before that, at 2,973.
The S&P 500 is just 1.5% from a new record. Yet the view and the mood are a bit different now than at those previous times the market stood on this particular perch.
In July, the 10-year Treasury yield sat near 2%, and the Wall Street consensus was pretty sure the Federal Reserve’s move toward a rate-cutting stance would be enough to nurse the markets to a trade deal with China and bridge the stock market across a lull in earnings growth.
Since then, the 10-year Treasury has rushed down to 1.59% after a plunge to 1.44% several days ago, and investors’ confidence has been shaken in the durability of the economic expansion.
Extremely low bond yields are both a gift and a curse, cutting borrowing costs and bolstering relative equity valuations on the positive side while signaling acute risks to economic performance as a negative.
The market’s course from here will be steered by which aspect of the yield collapse seems more relevant at the moment.
The bullish case is, we’ve had a late-summer recession panic that’s overshot the economic evidence, and likewise bonds have become stretched by the global grab for scarce yield and exacerbated by technical hedging activity.
As noted here last week, investor sentiment toward stocks grew more sharply pessimistic in August than would be suggested by a mere 6% pullback in the S&P 500 from a record high.
Last week’s market bounce was the unwind of a portion of this skepticism: The worst-hit sectors of the market, mostly cyclical stocks tied to the economic pace, popped the most.
Stocks appear marginally less expensive based on projected corporate profits now than they did with the S&P at the same level on July 31.
S&P 500 P/E – Next 12 Months
The chart also shows the market at roughly at the same forward multiple as a year ago, which preceded a nasty market peak and severe fourth-quarter.
Only when comparing this valuation with prevailing bond yields do equities appear to have a fatter valuation cushion. This chart of the “equity risk premium” from Morgan Stanley shows the earnings yield on stocks — the inverse of the P/E — is well above average compared with bond yields, favoring equities slightly.
Source: Morgan Stanley
In other words, stocks are not cheap on their own, but this is in large part because of generous valuations assigned to secular-growth names and reputedly “defensive” stocks. And compared with bonds (which, granted, most equity investors view as egregiously expensive now), stocks in aggregate look reasonably attractive, especially given robust demand for corporate debt, whose value is also linked to economic prospects.
Recession or not?
All paths of analysis arrive at a similar spot: If U.S. bonds are where they are because of global central-bank policies and overseas economic challenges and not because the countdown clock to a U.S. recession is clicking louder, then stocks should do better. If not, then not.
Noting last week’s ISM manufacturing index sliding to a contraction reading, Goldman Sachs strategists point out that six of the previous 11 times the ISM fell below 50 since the early 1970s, a recession did not soon follow. Of those six times — including in early 2016 — the S&P 500 averaged healthy gains six (+6%) and 12 months (+22%) later.
Lately, the economic data have not been clearly consistent with a prerecession slide, but it’s hard to see them improving enough very soon to banish the end-of-cycle alert status entirely.
Bespoke Investment Group notes that the U.S. Citi Economic Surprise Index — which tracks how reported data come in relative to forecasts — has just turned positive after 140 straight days below zero — the longest such losing streak since (yes, again) 2016. The firm notes that following previous moves back above zero after a long time below, S&P returns have been solidly positive, on average, over the ensuing six months.
Source: Bespoke Investment Group
The market action itself is ambiguous, with its message resting largely in the eye of the beholder. The S&P 500’s broad uptrend remained intact through the August shakeout. Yet the tape has been either appropriately selective or precariously uneven, depending on how it’s viewed.
While the S&P 500 itself is less than 2% from a record high, fewer than half the stocks in the index are even within 10% of their own 52-week high. That leaves a lot of room for catch-up in discounted stocks if economic atmospherics improve, but it also suggests a winnowing of the fit from the faltering in what most still see as a late-cycle moment.
If last week was largely about the release of built-up investor tension over the macro outlook and the message from bonds, it could plausibly continue for a while.
Investor surveys and fund flows continue to reflect caution more than an interest in playing a further rally. Goldman’s sentiment gauge based on stock-index-futures positioning is neutral, far more muted now than it was when the S&P 500 was at the same level in late July.
Source: Goldman Sachs
Though, again, it was around here a year ago, which was not a great time to be adding equity exposure. Other tactical gauges, such as Bank of America Merrill Lynch’s Bull-Bear Index, is sending a clearer tactical buy signal now that the “pain trade” for the short term remains higher for stocks.
Could the Fed disappoint investors with its decision and commentary in 10 days? Could the October trade talks with China be nixed? For sure.
Would those developments truly jolt a market that has been focused more on risk than reward since stocks were last year six weeks ago? Harder to say.
Roku could fall another 30% before finding a bottom, chart suggests
The streaming wars may have claimed a new victim.
Roku shares plummeted nearly 30% last week, its worst weekly performance stretching to its 2017 IPO.
The streaming platform stock was pummeled Friday after Pivotal Research slapped a sell rating and $60 price target on it, fearing a rush of competition in the space. It was crushed days earlier after CNBC owner Comcast announced it would offer a free streaming box to its internet customers.
It could get even worse, according to Craig Johnson, chief market technician at Piper Jaffray.
Roku has “violated the uptrend support line off those April lows of this year. You’ve got some support that comes in at $113. But purely based upon the charts, your best support comes in all the way back down at the 200-day moving average. So you can see the stock trade back down to $81, maybe even $75,” Johnson said Friday on CNBC’s “Trading Nation.”
A move down to $75 marks 30% downside from current levels. It has not traded at that price since May.
“The risk/reward isn’t favorable. Even though the stock is up, it has sold off quite a bit in here recently. I still think you got about 30% downside and maybe a relief rally of 7% upside, so I’d be selling into this move,” said Johnson.
Quint Tatro, founder of Joule Financial, does not see Pivotal’s note on Roku as the stock’s death knell.
“Obviously, the stock got way overheated, trading 25 times sales, but [Pivotal’s] rationale regarding losing market share I don’t agree with. You have to understand, this is a cord-cutting product so their whole rationale is that the cable companies are going to offer their own device for free in order to compete. I’m a Roku user. I own six of them in our home and office. I have not had cable for years so I would not switch to a cable device,” Tatro said on the show.
Tatro says a pullback in Roku’s share price to 14 to 15 times sales, around $100, would make him a buyer. Roku would need to fall 7% from Friday’s close to get to that level.
Disclosure: Comcast is the owner of NBCUniversal, parent company of CNBC and CNBC.com.
The market rotation this month may have been driven by a technicality
A trader works at the New York Stock Exchange in New York.
Wang Ying | Xinhua News Agency | Getty Images
What exactly happened during the “once in a decade” stock market rotation earlier this month that rocked investors? It might’ve just been a one-off technical move and not based on fundamentals.
A huge rotation out of momentum into value names took place suddenly last week. Many read the phenomenon as a warning sign as stocks with superior growth have led the market’s bull run in recent years and said a rebound in interest rates was the catalyst. However, the reversal in momentum, which seemed to abate this week, could be explained by a sudden stop in tax loss harvesting, some on Wall Street said.
The idea is that investors often sell losing stocks to lower their tax bill from the capital increases, a technical move that’s quintessential of a momentum trade — chasing winners and dumping losers. The amount of such activity might have decreased significantly last week due to speculations the Trump administration would pass a bill to reduce capital-gain taxes, therefore reducing the incentive to sell their losers.
“It’s quite possible some of the dominant robo advisors could have assumed that the U.S. administration would indeed follow through with its proposal on Sept. 9, and decided to change their optimization to take this into account,” Barclay’s head of equity derivatives strategy Maneesh Deshpande said in a note on Wednesday.
President Donald Trump earlier this month floated a proposal to tie capital gains taxes to the inflation rate, which could lower the taxes investors pay on profits from selling assets. He eventually ruled out such a plan on Sept. 11. But the discussion around the proposal last week coincided with the change in stock leadership that shocked many investors.
Tax loss harvesters might have stopped selling losers and adding winners on the prospect that capital-gains taxes would go down, which could make tax loss selling less beneficial. Such a change could have caused the downturn in momentum due to less selling of falling stocks and less buying of rising names.
The amount of active tax loss harvesting has ballooned over the years as robo-advisers, which automatically allocate assets in a tax efficient way, gained popularity on Main Street. Robo-advisers now manage about $1 trillion assets, up from $240 billion in 2007, according to Barclays.
“Of course, it is also entirely possible that some other investors would have put on the trade in anticipation of such a proposal,” Deshpande said.
The iShares S&P 500 Value ETF hit its highest level since January 2018 on Sept. 11 as the rotation hit its pinnacle.
Value, cyclical companies with low prices relative to earnings and book values tend to be sensitive to economic growth. However, embracing the group without a material change in the economy doesn’t make a lot of sense, analysts warned.
“Absent an improvement in underlying economics, we believe that the recent shift in leadership is unlikely to persist,” Jonathan Golub, chief U.S. equity strategist at Credit Suisse said in a note Monday.
‘Game of Thrones’ ends run with best drama award, 59 total Emmy Awards
D. B. Weiss (C, speaking), David Benioff (3rd L) and cast and crew of ‘Game of Thrones’ accept the Outstanding Drama Series award onstage during the 71st Emmy Awards at Microsoft Theater on September 22, 2019 in Los Angeles, California.
Kevin Winter | Getty Images Entertainment | Getty Images
Despite mixed fan and critic reactions to the final season of “Game of Thrones,” the eight-season epic took home the top prize in the drama category at the Emmy Awards on Sunday.
Closing out the 71st annual television awards ceremony, David Benioff and D.B. Weiss thanked creator George R. R. Martin for entrusting his book series to the young producers more than a decade ago and praised the cast and crew for their work on the program.
Since 2011, HBO’s “Game of Thrones” has garnered 160 Emmy nominations and taken home 59 prizes for everything from acting and editing to special effects and sound mixing.
On Sunday, the program earned two Emmys, one for outstanding supporting actor, which went to Peter Dinklage for his portrayal of Tyrion Lannister, and one for outstanding drama.
Earlier in the month, “Game of Thrones” won 10 additional awards during the Creative Arts Emmy ceremony.
“Game of Thrones” final award tally falls short of the 67 Emmys that “Saturday Night Live” has accrued over its 44 seasons. “SNL” earned two statues on Sunday, one for outstanding variety sketch series and one for outstanding directing.
The final season was widely criticized by fans who felt the pacing and its treatment of previous character developments were not up to par. Still, the show continued to have record-breaking viewership.
Each episode, save for one, topped viewer counts from the season seven finale, which was the series high prior to season eight’s release.
Disclosure: Comcast is the parent company of NBCUniversal and CNBC.
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