Month: November 2016

Activity should be light this week due to the holiday. Markets will be closed Thursday for Thanksgiving. Lower volume and holiday sentiment bode well for stocks as the major indices continue to flirt with new all-time highs. A recent survey indicated individual investor sentiment is at its highest level in almost two years. Over $44.5 billion has been invested in equity exchange-traded funds since the election.

European Central Bank (ECB) President Mario Draghi delivered prepared remarks before the European Parliament on Monday. U.S. existing home sales figures, which are forecast to be slightly lower than the previous report, will be released on Tuesday. Wednesday’s mortgage applications will be compared to week’s unexpected decline. Durable goods orders and new homes sales data will also be available on Wednesday. While durable goods orders are predicted to rise 1.5 percent, new home sales are forecast to decline slightly in the face of rising mortgage rates.

Weekly unemployment claims figures will be released a day early due to the Thanksgiving market closure. Unemployment claims are expected to rise slightly from last week. The final University of Michigan Consumer sentiment figures are expected to remain unchanged at 91.6 when they are also released Wednesday. Crude inventory figures are also scheduled for release midweek.

The latest Federal Open Market Committee (FOMC) meeting minutes will be released on Wednesday. Black Friday sales will also provide data points to gauge the American consumer climate.

As earnings season winds down, 470 of the S&P 500 have already reported. Overall, earnings have risen 3.8 percent year-over-year and revenues have increased 2.6 percent. Tyson Foods, Hewlett Packard Enterprise, Dollar Tree and John Deere and Company are scheduled to report earnings this week. Hewlett Packard Enterprises (HPE) will deliver quarterly earnings and report on the status of a merger with U.K.-based Micro Focus (MCFUF) and other restructuring efforts.

Discount retailer Dollar Tree (DLTR) is also scheduled to release its earnings on Tuesday. John Deere and Company (DE) will report on Wednesday. Investors will focus on the company’s sales figures and the number of maturing leases. Falling crop prices could negatively affect farmers’ abilities to purchase or lease new equipment.

Market Perspective for November 18, 2016

Financial and technology sectors brought major averages near all-time highs this week as post-election optimism continued. The SPDR Financial Select Sector ETF (XLF) gained more than 2 percent, while shares of the SPDR Technology Select Sector ETF (XLK) were up slightly more than 1 percent. Gold prices dropped close to 3.5 percent on the week as the dollar index rose. The SPDR Standard & Poor’s 500 index ETF (SPY) was higher by more than 1 percent.

During her congressional testimony Thursday, Federal Reserve Chair Janet Yellen stated that a near-term rate increase would be appropriate and that waiting too long would have negative effects. She also indicated that any increases would come at a gradual pace. The Federal Open Market Committee (FOMC) is scheduled to meet in mid-December. Odds of a rate hike at the meeting have reached an almost certain 91 percent.

October’s 0.8-percent retail sales beat consensus forecasts and, for the first time in four months, the New York Fed Empire State Manufacturing Survey reached positive territory. Economists had expected a slight uptick, but new orders and shipments were much stronger than anticipated. European third quarter gross domestic product (GDP) grew in-line with the expected 1.3-percent year-over-year increase.

On Wednesday, the weekly mortgage purchase application index unexpectedly slipped 1.2 percent as mortgage rates continued to rise. The Industrial Production and Capacity Utilization figures for October signaled flat production and utilization that was lower than forecast. The weekly oil inventory report indicated another large build. The price of oil rallied early in the week on reports of an OPEC meeting in Doha before giving back some of those gains when it was revealed that several key oil exporters would skip the conference. The price for barrel of West Texas Intermediate crude rose almost 8 percent on the week. Shares of the Energy Select Sector SPDR ETF (XLE) were up more than 2.5 percent.

The domestic producer price index (PPI) and consumer price index (CPI) figures were released Wednesday and Thursday. Unchanged for October, the PPI missed expectations of a modest 0.3 percent increase. The CPI figures experienced their biggest uptick in six months primarily due to increasing gasoline prices and rent payments. The pickup in inflation is another indication that the Fed will raise interest rates in December. Despite the increase in mortgage rates, housing starts jumped 25 percent last month. Once again, weekly unemployment claims fell to a fresh multi-decade low at 235,000, below the expected 257,000.

Shares of Cisco Systems (CSCO) fell approximately 6 percent when the tech giant beat consensus estimates, but lowered forward guidance on Wednesday. Salesforce.com (CRM) shares rose more than 5 percent after Thursday’s closing bell following a 2 percent increase in quarterly revenues. Shares of Home Depot (HD) were flat despite an earnings beat and improved forward guidance, while Lowe’s (LOW) shares initially dropped before recovering after missing earnings and revenue forecasts.

Target (TGT) shares rose 7 percent as sales and earnings beat estimates. Wal-Mart (WMT) shares shed almost 3 percent. Although WMT beat analysts’ earnings forecasts, investors were wary of the company’s forward guidance. Shares of Best Buy (BBY) rose 15 percent when the company handily beat forecasts and reported stronger-than-expected same-store sales.

iShares iBoxx High Yield Corporate (HYG)
iShares iBoxx Investment Grade Bond (LQD)
PowerShares Senior Loan Portfolio (BKLN)
Fidelity Floating Rate High Income (FFRHX)
DoubleLine Core Fixed Income (DLFNX)
Thompson Bond (THOPX)
Fidelity Corporate Bond (FCBFX)

The major fundamental change in the financial markets over the past week was in interest rates. A rally in yields could be the initial step in a long-term reversal.

The best positioned fund for this reversal was and is Thompson Bond (THOPX). With higher yielding credit in the portfolio, the fund has lower duration than similar funds holding government bonds, but the main reason for a strong performance is positioning. THOPX managers expected rising rates going back to the start of 2015, which is why this week’s rise in rates didn’t dent the fund one bit. In contrast, DLFNX slipped a bit due to manager Jeff Gundlach anticipating rates would stay flat at the long-end. However, his relatively conservative approach has served DLFNX well in a very tough week for fixed income.

Floating rate funds have also done well, as expected. Bonds with fixed rate coupons must drop in price in order to match rising bond yields, but the interest rate on floating rate securities can increase instead, leaving the price of the bonds unchanged. Floating rate mutual funds and ETFs all did their jobs last week.

The worst performing bonds were long-term government bonds. iShares Barclays 20+ Year Treasury (TLT) was the best example, the fund tumbled as interest rates advanced.

Interest rates rallied across the board though, as the charts below show. Even the 3-month Treasury yield climbed from 0.30 to 0.55 before pulling back on Wednesday. The advance began before the election because it reflects rising rate hike expectations. The odds of a December rate hike are now at 90 percent in the futures market, as close to certainty as we get in the financial markets. Traders have fully priced in a rate hike and we should see some stabilization or even a mild correction in the market moving forward.

WisdomTree US Dollar Bullish (USDU)
PowerShares DB US Dollar Bullish (UUP)

Along with rising bond yields is the rising U.S. dollar. Thanks to futures markets, it is possible to hedge away currency risk and invest solely on the basis of interest rates. When interest rates in the U.S. dollar rise, speculators buy U.S. dollars and sell foreign currencies such as euros, until the profit from higher interest rates is eliminated. Rising rates immediately translate into a rising currency in the short-term.

In the long-term, a rising currency requires fundamental factors. Even before President-elect Trump, the U.S. dollar benefited from a relatively strong economy, rising domestic energy production (which reduced imports and thus the flow of dollars overseas), and relatively high interest rates. Trump plans to increase fiscal spending, which will increase GDP growth and increase interest rates. Both will add bullish pressure to the U.S. dollar. The new Trump administration is also expected to make domestic manufacturing more attractive, as well as make U.S. assets more attractive thanks to tax cuts. This should further cut imports and increase capital flows from abroad. Finally, on Wednesday, the U.S. Geological Survey announced it found the largest oil deposit ever discovered in Texas. Energy imports will stay low and even fall further in the years ahead.

Put it all together and it is a potent bullish combination for the U.S. dollar. The U.S. Dollar Index closed at a 13-year high on Tuesday and finished Wednesday at another high. If the index continues building on this breakout, an upside target of 120 could be in the cards, or a gain of 20 percent versus major currencies. More volatile emerging market currencies could fall 40 percent to 50 percent in such an environment. The last time we saw a similar rally in the dollar was in 1999 and it lasted until 2002. If we get a bullish breakout and rally all the way to 120, the dollar may not top until 2019 or 2020.