Thursday, January 12, 2017

Biggest challenge of 2017 directly ahead for gold, stocks

If you thought the pace of the head-spinning political events of the last two months couldn’t get any faster, think again.  One of the most critical decisions of President-Elect Trump’s reign will soon be decided.  The final verdict will have a direct impact on the direction of stocks, gold, and the economy in the months to come.

The decision in question is the Congressional challenge being made against the Affordable Care Act (ACA), also known as Obamacare.  Specifically, the requirement that individual Americans carry health insurance or else pay a stiff financial penalty is being challenged.  Earlier this week, Trump directed the Republican-led Congress to begin efforts at repealing and replacing the health care law “very quickly.”

The mainstream news media is sparing no expense in its efforts at turning public sentiment against a repeal of the healthcare law.  CNBC reports that “the number of people who owed Obamacare fines last year dropped by about 20 percent, while the number of Americans who benefited from financial aid for Obamacare plans grew to more than 5 million.”  The latest data was culled from 2015 tax returns to the Internal Revenue Service. 

IRS Commissioner John Koskinen said the number of people receiving Obamacare subsidies was up from 3 million in 2014.  For that year, customers got more than $10 billion in tax credits, with an average subsidy of $3,430 annually, according to the IRS.  Obamacare subsidies are available to wage earners with low and moderate incomes.  People who earn less money get more in assistance than higher earners.

Koskinen wrote that about 6.5 million taxpayers last tax season reported owing a total of $3 billion in such tax penalties for failing to have coverage in 2015.  In contrast, about 8 million people owed an Obamacare fine for lack of coverage in 2014.  Fines related to lack of coverage in 2014 totaled $1.6 billion.

CNBC reported that some 12.7 million people claimed one or more exemptions from the ACA-coverage mandate when they filed their taxes last year.  “The exemptions are wide ranging and can include having very low income, being incarcerated or having a close family member die recently,” according to CNBC. 

While pro-Obamacare media outlets such as CNBC are touting this news as confirmation that the ACA is “working,” the gorilla in the room is conveniently ignored.  The reason for the decline in Obamacare fines last year is that millions of Americans experienced a significant drop in income, which ironically is a direct result of the economic damage inflicted on businesses by the financial strictures of the ACA. 

CNBC also reported that the Republican-led Congress last week began taking steps toward repealing key parts of the ACA, which include the funding of premium subsidies and the individual mandate.  For the middle class’s economic sake, let’s hope the effort is successful.

You may be asking what all of this has to do with the price of gold or the stock market.  The answer is “everything!”  Repealing the individual mandate would serve as a huge catalyst for the U.S. economy and financial market.  It would lift a grievous burden from the shoulders of working-class Americans and would serve as a stimulus to consumer spending.  Economics 101 establishes that when wage earners are allowed to keep more of their income, they’re less likely to think twice about spending and investing it. 

One of the big reasons for the Nowhere-ville sideways trend in stock prices in the last couple of years is because people have been forced to think twice before spending or allocating money into investments due to the constraints of the ACA.  Pollsters have consistently underestimated the number of healthy individuals who choose not to carry expensive health insurance because they don’t consumer healthcare services.  Now those healthy individuals are being punished for their lifestyle choices by being forced to pay upwards of $1,000 per year in the Obamacare tax simply because they choose not to be insured.  This is an assault on personal liberty and common sense, and it has created a massive obstacle to full economic recovery. 

What can investors expect if the Obamacare tax penalty is soon repealed?  First, there will be an immediate uptick in consumer spending and overall economic activity.  Americans are always looking for an excuse to spend, and if they’re provided with what amounts to a massive tax cut they’ll express their relief by purchasing the items on their wish list that they’ve held off on buying due to personal budget constraints.  Businesses, moreover, will begin to pick up the pace of hiring since the healthcare mandate is no longer acting to suppress business investment spending.

A repeal of the ACA’s individual mandate would also revive the fortunes of publicly traded companies which serve the middle class.  Many of these companies’ stocks are components in our Middle Class Index (below).  The Index has been languishing for the last two years, but I’d venture that an upside breakout from the lateral trading range would shortly follow an Obamacare repeal.


As for gold, a repeal of the individual mandate would also likely have far-reaching consequences.  Gold’s fortunes would be helped, ironically, by success in getting the Obamacare tax removed.  While gold is primarily a safe-haven asset which feeds off investors’ concerns about the economic and political outlook, gold’s moves over the last two years have been closely correlated to the direction of the Middle Class Index.  As the fortunes of companies which serve middle class consumers have risen, so has gold’s price.  Conversely, last year’s major peak and subsequent decline in the Index has coincided with the July 2016 peak in the gold price and corresponding mini-collapse.

Wednesday, January 11, 2017

2017: Year of extremes

Now that another New Year is upon us, it’s time to reflect on what the coming months might unfold.  Normally when market analysts try their hand at predicting the year ahead it involves either wild guessing or linear extrapolation based on prevailing trends.  I tend to eschew both methods and instead focus on comparing past events in comparable time frames.  This method is based on something known as Kress cycle “echo” analysis and was pioneered by my late mentor, Samuel J. Kress. 

The year 2016 was filled with ups and downs, but was mainly a torpid year with stock prices stuck in a dull trading range for much of the spring and summer.  It continued a theme of directionless and no progress from the prior year, which, combined with the after-effects of the preceding slow-growth years, culminated in a disaffected mindset on the part of the masses.  The result was clearly seen in the outcome of the 2016 U.S. presidential election.

One of the most reliable of the long-term market rhythms (or “echoes”) is the 10-year (decennial) pattern.  This is often erroneously referred to as a “cycle” despite not fitting the technical definition of one.  The 10-year rhythm was famously expounded by the late market analyst Edson Gould and by Edgar Lawrence Smith in his book, Tides in the Affairs of Men.

The seventh year of the decade tends to be tempestuous and often sees extraordinary volatility.  It’s a year filled with extreme ups and downs and not uncommonly witnesses both a major high and a major low within the year.  In recent decades, the seventh year has witnessed the market making impressive strides, yet not without its share of turmoil.  Crashes, mini-crashes and panics are quite common in the seventh year (e.g. September 1987, October 1997, February/August 2007).  It will do us well to keep this in remembrance as we enter what promises to be a year filled with tremendous opportunity for making money in the stock market – in both directions. 

For 2017, the 10-year rhythm equates to 2007.  As you recall, 2007 was a momentous year characterized at once by great volatility alternating between great fear and euphoria.  It was the year that saw the last major stock market top and also the onset of the credit tsunami which overwhelmed the market the following year.  If the decennial pattern holds true, 2017 should witness both a meaningful rally to new all-time highs as well as a decline of potentially major proportions later in the year.  In short, it could turn out to be a big year for the bulls as well as the bears.

Now what about the economy in the coming year?  Year 2016 ended on a positive note, with the last meaningful economic news in late December being the revelation that U.S. consumer confidence had hit a 15-year high.  The Consumer Confidence Index hit 113.7 in December, exceeding economists’ expectations of a 109 reading.  The reading was the highest since August 2001.  Rising sentiment among consumers implies an optimistic economic outlook in the wake of Donald Trump’s election win.  The following graph is courtesy of the Trading Economics website (www.tradingeconomics.com).


For many in the middle class, Trump’s win has provided a reason for genuine hope for the first time in years.  Whether this hope will ever be fulfilled is a matter for conjecture.  What’s important from a market perspective is how consumers and investors respond to that hope.  To that end the appropriate question to ask is, “Will 2017 be the year that retail investors finally return from the sidelines?” 

For the year-seven decennial pattern to repeat, as it has in the three prior decades there must be not only a continuation of rising consumer confidence, but an acceleration in investor optimism as well.  To this end, it would seem necessary that small investors return from the sidelines and put their money back into the stock market.  After years of being stuck in the bomb shelter of low-yielding bonds, this important group of participants is no doubt feeling the urge to grow their money. 

To that end, the stock market is beckoning to them – especially with so many major indices at or near all-time highs.  The fact that the man who they believe represents their interests as an economic class will be in the White House will serve to stimulate their confidence in the economic outlook.  History shows that when consumers feel good about their intermediate-term economic prospects they are more likely to invest in stocks. 

Here is what investor sentiment currently looks like according to the Rydex Ratio of investor sentiment.  We should ideally see a major spike higher in this ratio sometime this year, ideally by late summer, to let us know that the historical pattern for Year Seven is on track for being repeated.


Whether or not 2017 will prove to be the exception to the “rules” of the decennial “echo” established in the prior decades remains to be seen.  We are certainly living in exceptional times, so it’s possible that 2017 will in effect throw the historical playbook out the window.  But as the last several years have resonated to the tune of the Kress cycle echoes to some degree or other, I have to assume that there will be at least some validity to the decennial rhythm for 2017.  Remember, while history doesn’t always repeat it does usually rhyme.  

Tuesday, December 13, 2016

Why collapse isn’t on the menu

The word “collapse” instantly conjures primal feelings of both fear and excitement whenever we hear it.  We fear it because it evokes our collective belief that collapse is fatal and final, yet it excites our imagination to the possibility, however, remote, that perhaps we’ll be among the lucky few to survive and even prosper from it. 

Whether in reference to a financial market crash or the collapse of government, the very idea has given birth to a plethora of writings on the subject.  Indeed, some of the top selling books in the financial literature category in recent years have had collapse as the subject matter, for writers instinctively know they can always count on a visceral reaction from their readers whenever they write of it.

Laying aside the fear it evokes, the study of collapse is a fascinating and rewarding endeavor.  Historians have long known what financial writers have only recently discovered, viz. that writing about collapse is a lucrative industry.  Consider the hundreds of books dedicated to the decline and fall of the Roman Empire, or to any number of past civilizations (Aztec, Egyptian, Babylonian, etc.).  One of the great preoccupations of writers of this genre is the guessing game of what exactly causes a society, or an economy, to collapse.  There is invariably no consensus among historians as to how, or even when exactly, it happens. 

Consider the famous example of ancient Rome.  What was it that actually precipitated the decline and fall of this mighty empire?  While there have been hundreds of reasons offered by specialists as to the cause(s), the most commonly assigned factors can be generally summarized as follows: 1.) Immigration and assimilation of foreigners (i.e. barbarians), 2.) Failure to continue expanding the frontiers via military conquest, 3.) Loss of personal discipline and liberty; 4.) Corruption on both the administrative and personal levels. 

Even if we accept any, or all, of these reasons as being legitimate, it still doesn’t answer the perennial question of what led the Romans to decide on making such a fateful decision.  In other words, what was the ultimate reason for the decline and fall?

Financial writers are plagued by the same lack of agreement as to what causes markets to collapse.  The reasons they offer range from the prosaic to the profound.  Most commonly they assume that a market collapse is the result of asset prices being “too high” or unsustainably expensive relative to valuation.  What many don’t realize is that demand for any given asset can extend well beyond the boundaries of normal valuation for years, or even decades, at a time.  We need look no further than the Treasury bond market to see an example of this. 

It has become fashionable among collapse historians to assume that collapse often occurs without warning out of a clear blue sky as it were.  Nothing could be further from the truth.  Collapses are invariably preceded by long periods of internal weakness, whether it’s the financial market or any other social system.  This explains why strong societies, much like strong markets, can withstand any number of external shocks without toppling.  It’s only when weakness is entrenched that one can expect external pressure to cause serious damage to a structure. 

An example of this is the stock market plunge of late 2015/early 2016.  In the months leading up to it there was a sustained period of internal weakness and technical erosion in the NYSE broad market.  The number of stocks making new 52-week lows was well over 40, and often in the triple digits, which was a clear sign of distribution taking place in some key industry groups.  This weakness was evident in the NYSE Hi-Lo Momentum (HILMO) indicators, which depicted a downward path of least resistance for stocks.  The following graph is a snapshot of what the HILMO indicators looked like in the weeks just prior to the January 2016 market plunge.


This is also what stock market internal momentum looked like prior to the 2008 credit crash.  In fact, it’s what precedes every major collapse and it’s also a good representation of the internal weakness which takes place before markets, societies and empires collapse.  Look below the surface and you’ll always see the internal decay which paves the way for the coming destruction.  A healthy and thriving system, by contrast, is simply not conducive for a collapse to occur.

When we view the internal structure of the current NYSE stock market through the lens of the HILMO indicator, what do we see?  A market ripe for collapse?  Far from it, we see overall signs of technical health – even if the market isn’t firing on all cylinders.  Below are all six major components of HILMO.  The orange line is the longer-term momentum indicator, which is one of the most important one for discerning whether or not the market has been undergoing major distribution (i.e. internal selling).  It has been rising for several months now and is the polar opposite of what it looked like heading into 2016.


It would appear then that a collapse isn’t on the menu right now, at least not in the intermediate term outlook.  If it happens at all it will require a significant reversal of the market’s longer-term internal momentum currents, which in turn would likely take several months.  The weight of evidence suggests that the doom-and-gloomers who are predicting collapse are much too early and should save their apocalyptic warnings for a more propitious time.

Wednesday, December 7, 2016

The great middle class revolt gets bigger

With the U.S. presidential election now behind us, many investors feel they can finally breathe easy again after a nail-biting period of uncertainty since last year.  The rally in the major equity market indices since Nov. 9 has been in large part a relief rally of sorts and has been broad-based.  The sell-off in bonds has also been an indication of this collective relief. 

Despite the powerful stock market rally, not everyone is relieved about the election’s outcome.  There is some evidence that a large segment of the U.S. population is still feeling uneasy about the incoming president.  I’m referring specifically to the upper-middle class, which by some measures hasn’t expressed any enthusiasm in the way of increased spending patterns since the election.  Indeed, many in this socio-economic group have expressed an unwillingness to make major purchases until they see evidence that President-elect Trump’s policies are beneficial for the economy. 

The upper-middle class is roughly defined as those individuals that earn from around US$85,000 to $150,000 per year. Based on one measure of upper-middle class retail spending, they’ve noticeably curtailed their discretionary spending for at least the last two years.  Middle class spending also remains below its 2014 peak. 

Here’s a theoretical question: If it were possible to invest in either the middle class or the upper-middle class as if both were individual stocks or ETFs, which would you choose?  Logic would dictate the latter group since we are assured by economists that the upper-middle class has actually grown in recent years while the middle class has allegedly shrunk.  Moreover, upper-middle class members typically earn on average at least twice as much as the middle class average income.   So given a choice between the two, which do you think has performed better in the last couple of years?

The answer will no doubt surprise many of you; it’s the middle class.  Here’s what a middle class “ETF” would look like:


This theoretical class index is comprised of several companies which cater mainly to the middle class, including WalMart, Dollar General, McDonalds, Ford, and JC Penny.  Notice in the above chart that while most of the middle class-oriented stocks peaked in 2014, many of these stocks have actually held their own and have been trending more or less sideways since last year.  Some of them have even shown an upward bias since this year.

Now for the upper-middle class “ETF.”  Here’s the chart: 


As you can see, the upper-middle class hasn’t exactly felt ebullient since their discretionary spending peaked in 2014.  This index is comprised of stocks which cater mainly to members of the upper-middle, including Target, Starbucks, BMW, Whole Foods, Apple, and Chipotle Mexican Grill.  Evidently, the upper-middle class has felt less than enthusiastic in the last two years as the overall trajectory of most publicly traded companies who serve this sector has been, surprisingly, downward trending. 

This is not to imply that the fortunes of the upper-middle have been declining; economic statistics suggest the opposite.  Yet a distinction must be made when performing this type of analysis between having money and the willingness to spend it.  Clearly the upper-middle class has been, by and large, less willing to spend than in the years prior to 2015. 

It would be tempting to lump the trends shown in the above charts together and label them collectively as a great “middle class revolt.”  Undoubtedly that could be said about the way the middle class feels, for they made their grievances known in the recent election.  As I’ve demonstrated many times in the past, nothing is more devastating to the mass psyche than a prolonged sideways trend in the equities market.  The directionless stock market trend visible in the NYSE Composite Index (NYA) since 2014 is a case in point.  I believe that this, more than perhaps any other factor, has engendered the spirit of revolt among the middle class.


Human nature is so constituted that if progress isn’t evident over a certain period of time, people become restless.  The longer that people feel they aren’t progressing, the more restless they become.  This explains why, almost without exception, every political or military revolution in industrialized countries occurs after a prolonged trading range in that country’s equity market.  In the case of the U.S. middle class, it’s not that this class is actually getting poorer; rather, they only feel they’re not progressing.  The above middle class “ETF” chart only serves to underscore that belief. 

I would also make one more observation about both the above mentioned “ETFs.”  The middle class and upper-middle class charts suggest that investors in both classes have been underperforming the major averages.  Perhaps this is another factor behind the widespread notion that the middle class is “shrinking.”  While their collective earnings have either stayed the same or increased in recent years, their potential earnings (via the investment markets) have declined.  This can only feed into the growing sense of disillusionment that many within the middle class are feeling.  What comes as a surprise, however, is that the same might also be said of the upper-middle class. 

The next few months will be extremely interesting from the standpoint of middle class investor sentiment.  Should the middle class index fail to break out from its 2+ year trading range soon, the middle class may show further signs of discontent next year – especially if President Trump fails to deliver on his promises to the middle class.  

Moreover, a failure of the upper-middle class index to significantly reverse its downward trend fairly soon could potentially cause problems with the broader economy given their outsized impact on consumer spending. Needless to say, the next few months will be very informative on a number of levels.

Thursday, December 1, 2016

Will real estate tank in 2017?

In many ways, 2016 has been a banner year for U.S. real estate.  Housing prices continued to strengthen in several major metropolitan markets and even reached frothy proportions in at least three major markets.  Below the surface of an otherwise healthy market, however, lies a set of factors that could cause problems for the housing market in 2017.

Like most financial assets, home prices have been stuck in a sideways trend since 2014 and by all appearances weren’t going anywhere anytime soon.  The chart shown here from the Calculated Risk blog shows the CoreLogic Home Price Index from a yearly percentage change standpoint.  The dramatic increase in the tax and regulatory burden courtesy of the outgoing regime contributed to this standstill.  In the last several months it was the uncertainty over the November presidential election which contributed to subdued speculative activity in the financial markets. 


Now that the uncertainty has lifted to a large degree, asset prices are breaking out from their constrictive trading ranges, with many stock market sectors making nominal new highs.  Investors are hopeful that the incoming administration will be more pro-business than the last one.  Even real estate prices have ticked higher on a year-over-year basis, as shown by the above chart. 

With continued strength in real estate prices comes an increase in home equity wealth for homeowners.  According to CoreLogic, home equity wealth has doubled since 2011 to $13 trillion due mainly to the housing market recovery. Moreover, CoreLogic has forecast that a continued five percent rise in home values in the coming year would create an additional $1 trillion in home-equity wealth for homeowners. 

The current supply/demand balance for U.S. residential real estate is still favorable for a rising market.  Existing home sales and new home building permits are on the rise, with existing home sales rising in recent months by positive increments.  The National Association of Realtors recently reported that the supply of homes was a 4.5-month supply at the current level of sales.  This means that supply has decreased 7 percent in the past year.


Up until now the rally in bond yields (and fall in bond prices) hasn’t had much of a discernible impact on mortgage rates.  That may be in the process of changing, however.  The U.S. 30-Year Fixed Mortgage rate rose to 4.03% from last week’s 3.94%.  In doing so it pushed the year-over-year percentage change in the mortgage rate above the “zero” line and into positive territory.  Whenever this has happened in the past it tends to create weakness for the real estate-related stocks in the market.  It can even negatively impact the overall broad market for equities if mortgage rates continue rising over several months.  Rising mortgage rates can also be quite detrimental for the overall real estate sector if they persist long enough. 


It’s also worth pointing out that three-month Libor rates, which are the benchmark cost of short-term borrowing for the international banking system, have nearly tripled in the last 12 months.  As Steen Jakobsen of Saxo Bank has observed, “The Libor rate is one of the few instruments left that still moves freely and is priced by market forces.  It is effectively telling us that the Fed is already two hikes behind the curve.” 


My colleague Robert Campbell, who writes The Campbell Real Estate Timing Letter (www.RealEstateTiming.com) had this to say in his November newsletter: “Current real estate valuations are justified only if rates stay low – and if the Fed does raise rates in December as the financial markets currently expect, housing prices could start adjusting downward.”  This is certainly worth pondering as we head into 2017, especially if the interest rate uptrend continues.  

Real estate has been on a solid footing in the last few years but looks to encounter some turbulence at some point next year. The increase in market interest rates may well pressure the homebuilding sector, especially given the vertiginous levels which bond prices have soared to in recent years.  Any continued weakness in the bond market will only increase the pressure on housing loan demand. 

Tuesday, November 15, 2016

U.S. economy at major long-term pivotal point

As the dust settles from the U.S. presidential election, multitudes of political analysts and news commentators continue to scratch their heads wondering “what went wrong?”  The collective question they’re asking of course is in reference to the candidate who was elected President. 

This is the wrong question to ask, however.  What they should be asking is what led millions of (mostly) middle class voters to rise up against the favored establishment candidate and voice their disapproval with the incumbent party.  As is normally the case with anything relating to politics, the answer is to be found in the realm of economics. 

It’s no secret that the main source of the middle class revolt is that class’s overall lack of strong participation in the economic recovery of the last seven years.  Pundits have tended to put the blame for this squarely on the shoulders of middle class workers.  They never tire of repeating the mantra that the middle class’s skill set is fast becoming obsolete due to the evolution of technology and increased globalization.  This, though, has been true for at least the last three decades, so it hardly qualifies as a prescient insight. 

No, the root of middle class revolt is far more contemporary in origin and is much easier to isolate than the pundits think.  Let’s ask ourselves, in political terms, what is it that the middle class demands more than anything else?  The political philosopher Niccolò Machiavelli provided the answer to this rhetorical question centuries ago: the working class want nothing more than to be left alone by the ruling class.  In other words, they don’t want to be excessively taxed.

Without almost a single exception, any revolution in any country – be it political or military – has begun when the people were over-taxed and their cost of living became too high to support without undue strain.  It isn’t as much a lack of skills which has led to the middle class’s troubles as it is a drastic increase in their cost of living, thanks largely to an extraordinary increase in taxes in recent years.  And the main source of their tax trouble can be pointed to a single source, viz. the Affordable Care Act (a.k.a. Obamacare). 

Regardless of what your opinion might be as to the efficacy of this legislation, the undeniable fact remains that for millions in the middle class it has effectively drained their earnings by inflicting a hefty a penalty on those who don’t wish to purchase health insurance.  It enacts an even stiffer drain on consumers’ earnings by encouraging the young and healthy to purchase costly medical insurance when they don’t really need it. 

As Machiavelli himself wryly observed, history does tend to repeat and most political rulers fail to learn from its precepts.  One would think the Democrats would have learned a valuable lesson about forcing healthcare upon an unwilling populace in 1993, when the Clinton Healthcare Plan (a.k.a. Hillarycare) was first proposed.  It basically amounted to a forced attempt at socialized healthcare in the U.S., and it was staunchly opposed by millions of (mostly) middle class voters.  A vigorous initiative against the plan launched by the Christian Coalition effectively sealed the fate of the Clinton Healthcare Plan, allowing the economy a narrow escape from a substantial tax increase.

A rudimentary lesson of Economics 101 is that unwarranted taxes always hinder productivity to some degree or other, for taxes are a disincentive to produce.  The more taxes government implements to remove money from the pockets of wage earners, the less incentive they have to work hard and make even more money.  Thus the velocity of money decreases, which is the basis behind a sluggish economy (as we’ll see here). 

The Obamacare penalty must certainly rank as one of the biggest tax increases in U.S. history.  One simply cannot tax the American middle class like that and expect to that economic growth will continue unimpeded.  This is a big reason why the Democrats lost big in the latest election: it was the middle class’s repudiation of the Obamacare tax more than perhaps any other factor. 

Although the economy has certainly made significant strides since the depths of the Great Recession, there’s no denying that it hasn’t regained its luster from the heady years prior to the crash.  Economists often lament the lack of money velocity in the U.S., which is depicted in the following graph. 


Velocity is simply a measure of how quickly money is changing hands in the U.S.  The above chart is a snapshot of the annual percentage change in money velocity.  The picture speaks for itself and is a perfect reflection of the residual anxiety still very much present within the middle class economy.  Money simply isn’t changing hands fast enough among typical wage earners and this has kept the economy from what could have been a vigorous expansion. 

The blame for that can be put largely on the biggest tax increase in decades previously mentioned.  As long as the Obamacare tax remains on the shoulders of non-healthcare consumers it will continue to create a drag on the economy and prevent the kind of efflorescence historically associated with the strongest rebounds. 

Beyond the impact that the Obamacare penalty laid upon millions in the middle class, it has also had repercussions for investors and business owners.  The drag created upon business by Obamacare requirements has almost certainly contributed to the lack of forward momentum in the stock market these last two years.  It can be seen most clearly in the NYSE Composite Index (NYA), below, which is the broadest measure of the U.S. equity market. 


The breakout to new highs in several of the major indices, excluding the NYA, may indeed prove to be an anticipatory move in response to expectations that the Trump Administration will relieve business of its excessive tax and regulatory burden.  In order for the breakout to give way to a continued boom, however, this expectation should become reality.   

Now that Republicans control both chambers of Congress they have a chance to redeem themselves from their lack of a concerted effort against the Obamacare vote.  Regardless of whether they support the law remaining intact, to acknowledge the middle class constituents who voted for them they can, and should, send an undeniable message of support.  By eliminating, or at least significantly lowering, the penalty for not buying health insurance they will have given the middle class the best possible gift they can give.  In doing so they will be lifting a huge hindrance to the economy and allow it to truly take off in 2017.   

The 60-year economic cycle of inflation/deflation which bottom a couple of years ago hasn’t had a chance to work its magic on the U.S. economy by lifting the deflationary currents from the last two decades.  The early years of the new 60-year cycle tend to exert a benign inflationary impact by gradually lifting prices without creating the problems associated with too much inflation.  The up-phase of a new 60-year cycle also tends to stimulate consumer spending and investment within the economy due to the gradual increase of benign inflation.  Yet the cycle hasn’t been allowed to do its work thanks to the grievous burden of taxation imposed by Obamacare.  

If this tax is reversed by the incoming Congress, it’s highly likely that we’ll witness a magnificent flowering of the economy in the years that follow.  While the economic recovery since 2009 can be likened to foliar growth in a fruiting plant, the second and most important phase of the recovery must involve flowering.  Only then can the plant bear its fruit.  To date there has been much leafy growth, yet little flowering.  The stimulant required for this flowering is the lifting of the excessive burdens placed upon it by the previous caretakers.  

Thursday, November 10, 2016

What investors can expect from the Trump revolution

They’re calling it the Great Revolution, and rightfully so.  Donald Trump’s earth-shattering victory over Hillary Clinton on Nov. 8 must surely rate as one of the greatest political upsets in U.S. history.  It stretches the mind to recall the last time a true political outsider won the Oval Office.  The prospects of what an independently wealthy and politically unattached President can do for the country are tantalizing to consider. 

Let’s leave the hyperbole and political predictions to others, though, and focus on what little can be discerned in the wake of Trump’s historic win.  There’s a saying we’re all familiar with: “Don’t listen to what they say, follow the money trail.”  That bromide has never been more relevant than it is right now.  With that as our starting principle, let’s examine what the “smart money” thinks about Trump’s presidential victory.  They’re the ones, after all, who determine the financial market’s course and it’s their opinions that will likely prove most accurate. 

In the wake of Mr. Trump’s victory of the U.S. presidency we’re seeing an avalanche of predictions and commentaries from all sides of the political spectrum as to what the President-Elect will do once in office.  His opponents vehemently assert he will drag the country into an economic recession – or worse – with his proposed policies.  His supporters maintain he will restore American greatness and revitalize the nation’s struggling middle class.  Not in ages has there been a more polarized response among both sides of the political divide.

Since no one but Trump himself and perhaps a few insiders can possibly know exactly what his true intentions are, any attempt by outsiders such as me at predicting the coming months would be mere speculation.  That doesn’t mean we’re completely without guidance, however.  The old tried-and-true bromide that every successful investor knows by heart can always provide valuable insights on what likely will be next, viz. “The tape tells all.”

What exactly does “The tape tells all” mean?  It means that while individuals may cast votes on a ballot and share their opinions with pollsters, the only votes that really count are the ones they make with their money.  After all, when one’s hard-earned dollars are at stake you tend to think long and hard before placing your “vote” in the marketplace.  Campaign promises can be broken and good intentions are ephemeral, but investment decisions typically have bigger consequences.  As such, they tend to be made with far greater forethought and longevity than mere spoken words.  With that said, let’s examine what the smart boys and girls who vote with their dollars actually think about the prospects of President-Elect Trump’s upcoming reign.

One assumption that many held about a Trump victory was that the global markets would plunge and the economy would deteriorate.  Already there were some headlines appearing after the election forecasting a “Trump recession.”  The stock market “tape” doesn’t indicate that informed investors are concerned about the prospects of recession under Trump.  In fact, the market crash that many had predicted failed to materialize and instead a vigorous rally greeted Wall Street on Wednesday morning after the election.  The stock market gained 1.43% on Wednesday despite S&P 500 futures being down 5% at one point overnight.  This isn’t the money voting action of a group of insiders concerned about imminent recession or a bear market; it suggests that cooler heads have prevailed against last night’s emotional reaction in the futures market.


One of the best ways of anticipating a president-elect’s policies is to take notice which industry groups are outperforming in the days immediately prior to and following the election.  This technique works especially well if the industries in question have been underperforming for an extended period.  Again, the rationale behind this is that informed investors are better equipped than outsiders to predict a president’s trade and economic policy intentions.  Sudden and dramatic shows of relative strength prior to, and in the wake of, an election are signs that the insiders are buying stocks poised to benefit from those policies. 

A couple of weeks ago we discussed the strong performing defense sector and the implication it held for potential military activity in the coming 1-2 years.  While my assumption for this was predicated on a Clinton victory, a Trump presidency may still hold the prospects for militarism.  Note the stunning performance of the Dow Jones U.S. Defense Index (DJUSDN) on Wednesday in the wake of the election.  Defense stocks were one of the top-performing groups for the day as the Defense Index posted a 6.21% gain.  The smart money apparently sees the potential for military action even in spite of the President Elect’s dovish rhetoric. 


The financial sector has been a star performer since before the election and had another blowout day on Wednesday after the election.  Led by the big institutional financial firms like Goldman Sachs (GS), the bank stocks gained an average of 5% for the day while the broker/dealers were up 6% on average.  Here’s what the PHLX Bank Index (BKX) looks like as of Wednesday.  The index made a new 52-week high as you can see, quite impressive given that the average NYSE stock is still below a 2-year trading range ceiling. 


This is an important consideration since leadership and relative strength in the broker/dealer and banks normally carries bullish implications for the broad market.  It also tells us that, far from being disturbed by the threatening aspects of a Trump presidency, Wall Street (or at least a large faction of the Street) is apparently enthusiastic about the prospects for success under his administration.  Time doesn’t permit a more extensive analysis of the many industry groups and their reactions to Trump’s victory, but we’ll take a closer look at them in the next commentary.