Bull Market Bashers Can’t Cry Complacency
(Bloomberg Opinion) -- The S&P 500 Index rallied on Tuesday, coming within 0.3 percent of its intraday record set in January. If a new high is reached in coming days, it would cap an incredible comeback from the sell-off in late January and early February that drove the benchmark into a correction. It would also renew criticism that investors are too complacent. If only that were true.
The S&P 500 has risen about 13 percent from its intraday low Feb. 9, bringing its year-to-date gain to 6.91 percent. At the same time, the CBOE Volatility Index, or VIX, has fallen steadily to levels last seen just before the plunge despite the rise in global trade tensions, political unrest and major central banks talking about joining the Federal Reserve in cutting back on extraordinary stimulus measures. Also, at 10.95 on Tuesday, the so-called fear gauge is smack in line with the average for all of 2017, when volatility fell to record lows. But judging by one critical metric, investors are hardly exhibiting animal spirits. At about 16 times earnings estimates for 2019, the S&P 500 is cheaper now than in late January despite profit forecasts rising to about $178 a share from $161 then. Yes, lower tax rates have boosted earnings this quarter to about 23.2 percent from a year earlier, but profits would still be a healthy 15.5 percent regardless, according to Guild Investment Management.
From that standpoint, one might say investors are cautiously optimistic. Current valuations discount “limited economic expansion or significant reduction in earnings that seems very unlikely given credit and fundamental backdrop,” Tony Dwyer, an equity strategist at Canaccord Genuity, wrote in a research note to clients Tuesday. In one encouraging development, the rally is becoming more broad-based rather than depending on a few highfliers. Some 102 S&P sector groups are up this quarter, while just 22 are down. In the first half of the year, 58 were up and 66 were down.
A LOAD OF DEBT
U.S. Treasuries fell Tuesday as this week’s government bond auctions got off to a shaky start in what may be a sign investors are pushing back against rapidly rising federal budget deficits and debt. The Treasury Department’s sale of $34 billion in three-year notes drew bids for 2.65 times the amount offered. That’s below the average of 2.88 over the past 10 auctions of that maturity. Indirect bidders, a class that includes pension funds, mutual funds and, perhaps most important, foreign investors, took 42.7 percent of the sale, below the average of about 50.6 percent. President Donald Trump’s tax cuts and new federal spending have fueled a budget deficit that the Congressional Budget Office predicts will reach $1 trillion in 2020, according to Bloomberg News’s Liz Capo McCormick and Steve Matthews. With the Fed also winding down its debt holdings, that’s forced the Treasury to lift note and bond sales to levels last seen in the aftermath of the recession that ended in 2009. The amount of U.S. debt outstanding has risen to $21.3 trillion from less than $20 trillion a year ago. The Treasury will offer $26 billion of 10-year notes Wednesday and $18 billion of 30-year bonds Thursday. The Bloomberg Barclays U.S. Treasury Index is headed for its first losing year since 2013, falling 1.34 percent through Monday.
CHINA CURRENCY MANEUVERS
China’s currency has been declining steadily since mid-April, depreciating more than 8 percent against the dollar. At about 6.83 to the U.S. currency, the yuan is at its weakest point in more than a year. Some speculate the drop is a reflection of slower economic growth in China. Others say it’s being engineered by Chinese officials as way to aid exporters and offset U.S. tariffs. Whatever the reason, it appears as if local officials are concerned about the declines becoming disorderly, sparking a capital flight that would weaken its hand in trade negotiations with the U.S. The People’s Bank of China urged lenders on Monday to prevent any “herd behavior” and momentum-chasing moves in the currency market, Bloomberg News reported, citing people familiar with the matter. The outreach to lenders comes with the yuan approaching 7 to the dollar. Only one of 20 traders and analysts surveyed by Bloomberg News said the yuan would weaken beyond that level in the next three months, a milestone that was last crossed more than a decade ago. China is such a big part of emerging markets that any sign of weakness has the potential to have a domino effect on currency, equity and bond markets.
In a year when most parts of the energy market are experiencing higher prices, there’s been one notable exception: natural gas. The commodity has dropped 2 percent, compared with gains of almost 15 percent for oil, 17 percent for gasoline and 4.5 percent for heating oil. But that could all change as the weather cools. Natural gas stockpiles are at a 13-year low, according to a Bloomberg News survey. That means if temperatures plummet in the next few months, the supply crunch has the potential to push prices to $6 per million British thermal units, according to Price Futures Group — the highest since the “polar vortex” in the U.S. East roiled the gas market in 2014. Bloomberg News’s Naureen S. Malik reports that one reason stockpiles are so low is that a sweltering summer has kept air conditioners humming, driving power plants to burn more of the fuel than ever for this time of year as nuclear reactors and coal-fired generators have shut. “We will test production this winter to see if it can keep up with demand,” Phil Flynn, senior market analyst at Price Futures Group, told Bloomberg News.
Here’s proof that the adage to buy land because they’re not making any more of it holds true. Despite a rough year (well, decade, actually) for agricultural commodities, with the Bloomberg Agriculture Subindex dropping in recent weeks to its lowest level since at least before 1991, the value of U.S. farmland continues to rise. Average farmland values nationwide have increased 1.9 percent to a record $3,140 an acre this year from 2017, according to a report released late last week by the U.S. Department of Agriculture. The increase signals that investors are focusing on farmland as a longer-term investment and may consider escalating global trade tensions to be short term, according to Bloomberg News’s Alan Bjerga. While the U.S. disputes with China and other trading partners “enter into the mood, and maybe increase some caution in some buyers,” investors are taking note that “good quality land has held and increased its value,” Randy Dickhut, senior vice president for real estate operations for Farmers National Co., which manages more than 2 million acres in 28 states, told Bloomberg News.
China is expected to release its monthly trade data any day now, which means there’s the potential for increased volatility in global financial markets. That’s especially true if the numbers show a growing trade surplus with the U.S., prompting a storm of tweets from the White House threatening higher tariffs and unfiar trade practices. A month ago, China said its monthly trade surplus with the U.S. rose to a record $29 billion in June, the highest in any month in data back to 1999. As for July, no one is quite sure what to expect since that is when U.S. tariffs on $34 billion of Chinese goods took effect. Also, July is when the yuan fell to its lowest level against the dollar in a year, sparking speculation that China is allowing its currency to depreciate to help offset the impact of U.S. tariffs.
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This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Robert Burgess is an editor for Bloomberg Opinion. He is the former global executive editor in charge of financial markets for Bloomberg News. As managing editor, he led the company’s news coverage of credit markets during the global financial crisis.
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