A statue of a defiant girl stands facing the Charging Bull sculpture in the Financial District of New York, U.S. (Photographer: Jeenah Moon/Bloomberg)

It Only Gets Harder From Here, Stock Bulls

(Bloomberg Opinion) -- There are many theories as to why stocks did so poorly in December. Was it algorithms gone awry? A reflection of waning confidence in the U.S. government? Rising fears of an impending recession? All three likely played some role, but one of the simplest of reasons has largely been overlooked – and it won’t be good news for the bulls, because it suggests there’s a limit to this month’s market rebound.

I’m referring to the tax-loss-related selling that happens at the end of every year, when investors dump securities at a loss to offset a capital gains tax liability. After the selling is over, those stocks tend to generate some support as investors seek a bargain, and that’s what we’ve seen this month. As evidence, DataTrek Research notes that the biggest losers in the S&P 500 in 2018 were up about 9.5 percent this year through Friday, compared with the benchmark’s 3.6 percent gain overall. Also, small capitalization stock returns are double that of the S&P 500 after underperforming in 2018. In other words, the rebound probably has less to do with some sort of newfound confidence among investors than it does with technical factors. “From now on, U.S. stocks will have to earn further gains,” DataTrek co-founder Nicholas Colas wrote in a research note.

It Only Gets Harder From Here, Stock Bulls

That won’t be easy, especially with companies as diverse as American Airlines Group Inc., Macy’s Inc. and BlackRock Inc. stepping over each other to tamp down earnings expectations. Plus, no one wants to be all bulled-up with no end in sight to the U.S. government shutdown, the U.K.’s Brexit in doubt, China’s economy rapidly slowing and German growth faltering, to name but a few obvious challenges. 

YOU CALL THIS JUNK?
To say the market for speculative-grade corporate debt is recovering would be an understatement. The Bloomberg Barclays U.S. Corporate High Yield Index has gained 2.13 percent this year through Friday, already making this the best month for returns since April 2016. The $14.8 billion iShares iBoxx High Yield Corporate bond exchange-traded fund absorbed almost $1.8 billion last week, the most ever for the ETF, according to Bloomberg News’s Yakob Peterseil and Sid Verma. During the same period, the extra yield investors demand to own U.S. junk bonds instead of Treasuries shrank by the most in 10 years. Meanwhile, the S&P/LSTA Leveraged Loan Index has surged 2.46 percent this month. What’s remarkable is that this is all happening amid the meltdown of California utility PG&E Corp., whose bonds have cratered as it intends to file for bankruptcy protection. Normally such a high-profile collapse would send jitters through the debt markets, but one of the things fixed-income investors know is that such situations hardly cause contagion. Plus, balance sheets are generally in pretty good shape. Moody's Investors Service said Monday that its Liquidity-Stress Indicator ended December at 3.7 percent, closer to the record low of 2.5 percent at the end of 2017 than the energy-crisis-induced high of 10.3 in March 2016. Although Moody’s expects slower earnings growth and tighter funding conditions to push the ratio to around 4.5 percent this year, “healthy liquidity overall will continue to keep a lid on defaults, with both the LSI and the spec-grade default rate poised to remain below their long-term averages,” the firm said in a research note.

It Only Gets Harder From Here, Stock Bulls

OIL BEARS IN RETREAT
Oil prices fell for a second straight session Monday, as concerns over a global economic slowdown grew. A gauge known as the Composite Leading Indicator, which is used by the Organization for Economic Co-Operation and Development to predict turning points, just fell to its lowest since 2012, according to Bloomberg News’s William Horobin. This is significant because the bear market in oil prices that pushed crude down from almost $77 a barrel in early October to less than $43 on Christmas Eve was largely attributed to waning demand. But at a recent $51 a barrel for West Texas Intermediate crude and $59 for Brent crude, prices probably aren’t too far from fair value, based on the actions of traders and comments by big producers. Brent net-long positions – the difference between bullish and bearish wagers – climbed 3.8 percent to 158,146 options and futures contracts in the week ending Jan. 8, the ICE Futures Europe exchange said on Friday. Most of the shift came from a 3.6 percent decline on contracts predicting a Brent drop, according to Bloomberg News’s Alex Nussbaum. Oman Oil Minister Mohammed Al-Rumhi told Bloomberg TV that the agreement between OPEC and its partners including Russia and Oman can sustain prices at $60 a barrel. Claudio Descalzi, the chief executive officer of Italy’s Eni SpA, the country’s biggest oil producer, told Bloomberg TV the range will be between $60 and $62 a barrel.

It Only Gets Harder From Here, Stock Bulls

MEXICO TURNS WORLD-BEATER
After some initial missteps, Mexican President Andres Manuel Lopez Obrador is quickly gaining favor with investors after six weeks on the job. The peso was the world’s biggest gainer Monday, rising as much as 0.96 percent against the dollar. It’s appreciated about 8.50 percent since late November, more than any of the other 31 major currencies tracked by Bloomberg. The gains have more than erased the 8.66 percent loss suffered by the peso in October. “While recent moves have been substantial, the valuation signal is still strong on our metrics,” the currency strategists at Goldman Sachs Group Inc. wrote in a Jan. 11 report. They estimate that the peso’s fair value is around 17.50 per dollar, compared with a current spot rate of about 19 per dollar. That’s a more optimistic view than the consensus. The median estimate of strategists surveyed by Bloomberg is for the peso to weaken to 19.70 per dollar this quarter and to 19.85 by mid-year. To be sure, there’s plenty of room for AMLO, as the president is known, to generate a positive surprise. That’s because the Mexican economy is only forecast by the World Bank to expand 2 percent this year, which is less than half the 4.2 percent rate expected for emerging-market economies as a whole. “The chances that his policies will lead to an increase in GDP growth are actually pretty good,’’ Josephine Shea, a senior portfolio manager at BNY Mellon, who cites Lopez Obrador’s goals of lifting lower-income families out of poverty and creating jobs through large-scale projects, told Bloomberg News. Both should help the economy, she said. “The question is, by how much, and when?’’

It Only Gets Harder From Here, Stock Bulls

GREEK DRAMA
Prime Minister Alexis Tsipras’s political future is on the line this week after a coalition breakdown prompted him to call a confidence vote in parliament set for Wednesday, raising the risk of an early election. His two-seat majority is a reminder that post-bailout Greece remains brittle at a time when the euro area’s biggest countries are also struggling to provide leadership, according to Bloomberg News’s Eleni Chrepi and Sotiris Nikas. And yet, the Athens Stock Exchange General Index is holding up fairly well. The gauge is down just 0.72 percent over the past three months, compared with a decline of 3.28 percent for STOXX Europe 600 Index and a drop of 4.32 percent for the MSCI All-Country World Index. Yields on 10-year Greek bonds have remained stable at about 4.3 percent. “An early election is good news for investors,” Wolfango Piccoli, co-president of London-based consultants Teneo Intelligence, told Bloomberg News. “The country has been in election campaign mode for weeks, and the sooner the elections take place the better.” Tsipras has pledged to serve out his term and see through measures to stabilize the economy after years of fiscal austerity. This week may determine whether that happens, and whether Greek stocks can continue to outperform.

It Only Gets Harder From Here, Stock Bulls

TEA LEAVES
U.K. lawmakers are scheduled to vote Tuesday on Prime Minister Theresa May’s deal for the U.K. to leave the European Union. Given the way the Brexit debate has gone in recent months and how quickly alliances seem to shift, it would be a fool’s errand to attempt to game out what happens. What can be expected is a lot of volatility in the financial markets, especially the pound. Sterling has been one of the most volatile currencies in the $5 trillion-a-day global foreign-exchange market the last six months. A CBOE measure of implied volatility has risen about seven times faster than the JPMorgan Global FX Volatility Index. Yes, the Bloomberg Pound Index is trading at about its highest level in two months, but that ignores the fact that it’s down about 3.71 percent over the past 12 months.

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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