Tuesday, March 6, 2018

This Week's Message: Hey, Chicken and Paper Clips Say There Ain't No Inflation -- And -- This Week's Vision Test

In a recent weekly message we suggested that a strong two-day rally in stocks at the time was based on false pretenses: the notion that the economy isn't in fact exhibiting the kind of strength that would see interest rates notably higher over the foreseeable future, and that that's a good thing for stocks. 

Again, we think the data, and market history, fly directly in the face of such thinking.

For example, in terms of interest rates (read inflation) here's the latest from the Institute for Supply Management's manufacturing and services sector surveys:

ISM Manufacturing Report: February 2018

Commodities Up in Price

Aluminum (16); Caustic Soda (8); Copper (4); Corrugate (17); Crude Oil (2); Diesel; Freight; Nickel (2); Memory; Packaging Materials; PET Bottles; Phosphoric Acid; Pigments; Polyethylene (2); Polyurethane (2); PVC Resin; Resin Based Products; Steel — Cold Rolled (2); Steel — Fabricated & Machined Parts; Steel — SBQ & Alloy Bars; Steel — Scrap (3); Steel — Galvanized (2); Steel — Hot Rolled (15); Steel — Stainless (3); Sulfuric Acid (2); Titanium Dioxide (5); and Vitamins (2).

Commodities Down in Price


ISM Non-Manufacturing Report: February 2018

Commodities Up in Price

Aluminum Products (2); Chemical Products (2); Consulting Services; Copper Fittings; Copper Products (7); #1 Diesel Fuel (9); #2 Diesel Fuel (7); Eggs; Freight Charges; Fuel (2); Gasoline (7); Labor; Labor — Construction (12); Labor — Temporary; Lumber Products (8); Natural Gas (4); OSB; Paper (3); Polypropylene; PVC Products; Rebar; Steel Products (5); and Transportation Costs (2).

Commodities Down in Price

Chicken Products (2); Office Supplies; and Soybean Oil.

Save for chicken, paper clips and soybeans, the cost of virtually everything that goes into the production of a good or a service is going up.

And, folks, that's as it should be in an accelerating economy. Or, you might say, that's confirmation that the economy is indeed accelerating. At this juncture, unless you're in bonds and utility stocks (which you're not if you're our client) -- or unless you're a very short-term trader (depending on what happens next) -- it's not a bad thing. 

The question for the short-term trader at this point is, is the market (participants in the aggregate) ready for an economic regime change?

We're thinking this Friday might offer up an answer: If the February jobs report shows another notable increase in wages and a steady to even lower unemployment rate, the stock market's reaction will tell you what, in the immediate term, it has its sights on. That is, if the market tanks on strong employment news -- or rallies on weak news -- then clearly it remains dominated by a myopia that sees only the relationship between stock prices and interest rates, and is entirely blind to the relationship between stock prices and the prospects for their underlying companies' earnings. If, on the other hand, it rallies on a strong report and sells (or drifts aimlessly) on a weak one, then we can say its vision is markedly improving.

As for you and me (us long-term thinkers), it's all about the prospects for earnings. I mean, why would we ever buy a stock if we didn't think its earnings would be on the rise going forward? 

So, therefore, you and I are looking for a decent jobs report (the supporting data indeed point to decent), which -- added to much of the macro data we record and put into our model each week -- would be consistent with our view that the prospects for corporate earnings and, thus, the stock market remain quite good. 

My best guess is that market participants in the aggregate are not yet ready to give up their attachment to historically low interest rates. Therefore, we should expect more volatility to come as economic reality (a good reality, actually) forces its will upon them...

Forgive us if you're at all disappointed that we didn't devote this week's message to protectionism, but feel free to go here, here, here, here, here, here, and especially here for our thoughts. 

Have a great week!

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