No. of Recommendations: 31
A few weeks ago, I posted a New York Times article that reported there is invariably a stock market rally after midterm elections.

In addition, December often sees a rally that is nicknamed the "Santa Claus rally." So where is it?

December Has Typically Been a Great Month for Stocks — Until Now
Trade tensions, signs of slowing global growth and central-bank tightening have so far given investors far less seasonal cheer
By Steven Russolillo and Mike Bird, Wall Street Journal Updated Dec. 9, 2018 9:27 a.m. ET

In recent weeks, U.S.-China trade tensions, signs of slowing global growth and central-bank tightening have roiled stocks, fixed-income securities and commodities. Meanwhile, a potential yield-curve inversion in the bond market, where shorter-dated bonds yield more than longer-dated ones, has caused concerns of a looming economic recession....

That pretty much sums it up.

The yield curve predicts a recession several months before the recession arrives. Two charts let us research this. The 10YT-2YT inverts (goes negative) months before the start of the recession (which is never noted in real time but only in retrospect). The yield curve then begins to go positive even though the recession has started. It is a leading indicator.

The yield curve is currently flat but still positive. However, the 10Y and 30Y Treasury yields have been falling off a cliff for weeks even while the short T Bill yield is rising. If the Fed raises the fed funds rate in December as predicted the curve may invert and the stock market will have a tizzy.

Financial stress is rising but it is still low by historical standards. However, the market is used to zero yield crack cocaine so even this small rise is being felt.

The Fear & Greed Index are in Extreme Fear. The trade is risk-off, with a rising USD, Treasury prices and gold and falling stocks, junk bonds and commodities index. (Bond prices move opposite to yields.) Stocks are very expensive from a historical standpoint. The Cyclically Adjusted P/E Ratio (CAPE Ratio), Price-to-earnings ratio based on average inflation-adjusted earnings from the previous 10 years, has fallen back slightly but is still higher than the 1929 high.

The strong USD makes U.S. exports more expensive, hurting companies with strong international sales. The U.S. trade deficit just hit a record high.

The tariffs will be passed on to the consumer, potentially leading to increased inflation. Increasing inflation will force the Federal Reserve to raise interest rates, potentially leading to stagflation. (The dreaded combination of economic stagnation and high inflation that was prevalent in the 1970s and 1980s.) This is Alan Greenspan's recent opinion as interviewed on Bloomberg.

However, the 5-Year Forward Inflation Expectation Rate is trending down, so the bond market believes inflation will fall. Anyone who thinks inflation will rise should buy TIPS since they will yield more with rising inflation. (All the TIPS I bought in 2008 have unfortunately matured. These were among the best investments I ever made.) In 1H18, 12-month inflation was exactly where the Fed wants it at 2.1%.

So far, the problems have not shown up in the real economy. Unemployment is at a record low. Temporary Help Service Employment continues to rise. (Temps are often the first to be laid off when business softens.) Quits and Hires are the strongest since 2000. (Quits are good because they show confidence in finding a new job.) New factory orders are still trending upward. Non-manufacturing is growing strongly, even better in November than October. Corporate Profits After Tax are at an all-time high, helped by the 2018 tax bill.

International stock markets are almost uniformly in a falling trend.

The growth pattern of the SPX is troubling. After strong growth through 2017 the market dropped in early 2018. With almost 99 trading days without a new high, the "mungofitch 99 day rule" was almost triggered before the SPX started to climb again. However, it did not confidently grow but stalled at its old high and fell again. Since October, the SPX has been volatile but has not broken out of its lower range which showed slightly lower highs and lower lows. This is a technical indicator that isn't reassuring.

The METAR for next week is cloudy with a chance of storms. I don't expect any large storms or hurricanes but I do expect continued volatility and possible drops. Santa isn't bringing much cheer this year.

Print the post  


What was Your Dumbest Investment?
Share it with us -- and learn from others' stories of flubs.
When Life Gives You Lemons
We all have had hardships and made poor decisions. The important thing is how we respond and grow. Read the story of a Fool who started from nothing, and looks to gain everything.
Contact Us
Contact Customer Service and other Fool departments here.
Work for Fools?
Winner of the Washingtonian great places to work, and Glassdoor #1 Company to Work For 2015! Have access to all of TMF's online and email products for FREE, and be paid for your contributions to TMF! Click the link and start your Fool career.