01.11.2018–Goldilocks has left the building..
With the rise in US bond yields, the FED seemingly on autopilot to raise rates once more this year and 3 times next year, liquidity being drained out of the system in terms of unwinding of QE. The earnings season especially in the US being somewhat mixed and an escalation in tariff rhetoric has proved too much in the short term for markets to overcome. The rapid declines in markets especially the US with the subsequent rise in volatility has been primarily I believe driven by leveraged funds trading momentum stocks mostly through ETF`S which explains the sharp market movements.
..But she just went for a toilet break
After having been somewhat negative over the last 3 weeks (unusual for me), I now remain constructive for the end of the year.
Looking at index levels it would seem that we are closer to the end of this correction (no it`s not a bear market) than the beginning. A healthy dose of reality has hit investors in the US who now realise that their economy cannot be immune to what goes on in the rest of the world. Valuations have come down to more reasonable levels to reflect the more difficult earnings comparisons for the US market going forward and many momentum stocks have been crushed. The uncomfortable adjustment period, which was required, is almost over.
Global growth is still going to be in the high 2% early 3% level despite tariffs, US bond yields have declined as investors have fled stocks and bought bonds. Interest rates rises whilst painful having come from such a low rate environment have traditionally not been an impediment for stock price gains (rates still remain at very modest levels by historic standards).
Although currently seen as a moonshot it now seems likely to me that a deal is done between China and the US regarding trade. In the last few days, the US finally spelled out that the problem is mainly regarding the transfer of intellectual property and China in the meantime has stopped buying Iranian oil. By downplaying expectations ahead of a Trump-Xi meeting, a bigger victory can be claimed once the deal is done!
Once the finger pointing and rhetoric has subsided, the European Union and Italy are likely to find a compromise. I also fully expect a soft BREXIT or the can gets kicked further down the road or the road is extended. European stocks which have paid in advance for the tariffs are likely to reverse their negative trend given that earnings estimates for European stocks next year are pretty much the same as those for their US counterparts but with significantly cheaper valuations.
Traditionally it would take the market some months to find a bottom level and build a base before moving higher however given the rise of ETF`s, risk parity funds and momentum strategies do not be surprised to see a lightning fast V shaped recovery and the market to hit new highs before year end.
If I am right get ready for a double digit percentage rip your face off rally before year end
- Peter Ahluwalia