The bear market continued this week as stocks fell around the world. Oil continued to fall while gold rose, and interest rates plummeted. Janet Yellen, Fed Chair, testified this week that wage growth will eventually pressure prices upward to strike the inflation target. She asserted that while central banks around the world are easing, the Fed will stay on track for rate hikes as planned. It’s too bad that no one believes her, least of all the US Treasury bond market.
As of this writing about 12:40 pm ET on January 29, 2016, according to CNN Money the S&P 500 was trading at 1856, with the year-to-date return (1/1/16-2/12/16) -9.13%
Thanks to Dent Research, here is our weekly information roundup ending the week on February 12, 2016. We hope this information will help you separate the noise from the news. We start each subject with what you hear in the news and finish with what that information means to you.
Oil Dropped Below $27… The price of crude oil dipped well below $30, putting more pressure on oil-related companies and the banks that lent them money.
What it means – It’s working. Remember, one player in the industry, Saudi Arabia, created the current state of the energy sector. Government officials want to crush competitors while punishing Iran. Sure, oil at $27 is painful for all producers, but the Saudis have a lot of oil and a lot of cash; they can outlast most other players.
The annihilation of several energy master limited partnerships (MLP) is a case in point. There was an article in last week’s Barron’s pointing out a number of weak energy MLPs. The stocks cratered on Monday and Tuesday as investors wondered how these companies would pay their dividends or even stay in business if oil producers went bankrupt. It’s a good question.
But the situation doesn’t have to go on. At any time, the Saudis can choose to slow the flow, easing the pressure on global oversupply, and changing the psychology of the markets. I think they’ll do just that, but not until they see capitulation, which means a fair number of energy companies going bankrupt.
Stocks Fall Again, Have Farther to Go… Equity markets around the world dropped, with Japan leading the way. The Nikkei fell 5.4% on Tuesday alone. So far, there is no catalyst for turning things around.
What it means – Typically, you can find a silver lining to the cloud. Right now, there’s not a lot of silver. With many areas slowing down, there isn’t a rising sector like homebuilding or energy to inspire confidence.
Adam O’Dell wrote about this earlier in the week. His models still show weakness, as they have since last September. I’ll never forget when he came into our staff meeting during the last Irrational Economic Summit in Vancouver in September and told us he had just issued sell orders on everything in his service!
Today, he points out that even though stocks are down, there hasn’t been a general panic. We need that rush to the exits before we get the “all clear.” It’s still dangerous out there.
Bank Stocks in Free Fall… European bank stocks as well as domestic names are losing value faster than energy stocks.
What it means – All banks need one thing to stay in business – profit. That comes from borrowing money from depositors and then making loans at higher rates. This gets harder when banks in Europe have to pay for deposits (think negative interest rates) and few people on either side of the pond want to borrow money. Banks end up with a ton of idle cash, which earns them next to nothing, and yet they still have to pay all of their operational costs.
The situation is worse in Europe because many banks over there did not dispose of their bad loans from the financial crisis. Who knows what sort of losses they are sitting on?
With no growth on the horizon, it’s hard to see how banks will get off the floor anytime soon.
Gold Roared Back to Life in 2016… The precious metal continues to climb, topping $1,240.
What it means – People are scared. They aren’t sure what to hold, so they move to anything that looks like it will hold some value. We’re not gold fans. We’ve been bearish on the metal for years, and its slide from north of $1,900 five years ago has been a long, painful journey. This pop gives those who held on for so long another chance to sell.
That said I understand why people hold physical gold against calamity. I even have a bit myself. When I say this is a chance to sell, I mean gold bought for investment, like the GLD ETF.
The Japanese Yen Strengthened to 112 per U.S. Dollar… The yen hasn’t been that strong since November 2014, when the currency was losing value, on its way to 120.
What it means – No growth? No inflation? No babies? Record government debt-to-GDP? Negative Interest Rates? No problem! Who wouldn’t want to own the currency of a nation seemingly bent on demographic and financial self-annihilation?
I can’t explain the attraction of yen, but clearly it draws buyers. Even in the face of negative interest rates, some investors just can’t get enough. The yen's move was big enough to trigger a sell order in the Boom & Bust portfolio, where we’ve held a short position in the yen for years in the security YCS.
Charles and Adam kept an eye on the position, moving up the stop order to protect gains as the price moved higher. When our stop order was hit, we still had gains of about 90%. As Charles mentioned we still expect the yen to fall again, so there’s a good chance we’ll be back in this security soon.
Fed Not Likely to Cut Rates… Chair Yellen’s testimony implied the central bank would hold its course, which suggests a bias toward raising rates in the months ahead, not lowering them.
What it means – The game of Fed watching continues, no matter how much we all hate it. You just want to tell Yellen & Company that the light they see in the tunnel is not the breaking of a new economic day it’s a train! Oh well. Even if the central bankers aren’t convinced, the bond markets are.
The spread between the yield on 10-year government bonds and 2-year government bonds dropped below 1% for the first time since January 2008. When the difference in yield between these two maturities gets tight, it means bond investors don’t see a lot of future growth. Instead, they see the dreaded “R” word… recession.
Next Week – The week of February 15 starts with a holiday in the U.S., President’s Day. After that, we get reports on U.S. housing starts, U.S. industrial production, and consumer prices in both the U.S. and China.
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