Is this as good as it gets for stocks?
That’s what the Financial Times’ estimable markets columnist John Authers asked Friday, and he cites some key data on why this may be the best of all possible worlds:
- The Sharpe ratio, a widely followed measure of risk-adjusted return, has been 4.5 over the last 12 months, better than all but 99.7% of the time since 1900.
- Cash balances in mutual funds and money-market fund assets as a percentage of equity funds are at all-time lows, suggesting there’s little cash on the sidelines.
- The misery index (unemployment rate plus inflation) is at an all-time low.
- In the nearly 12 months since the election, the Dow Jones Industrial Average has soared 31%, the Standard & Poor’s 500 index has rallied 23%, and the Nasdaq Composite index has skyrocketed 32%, powered by many of the FAANG stocks.
So, why am I skeptical?
Two numbers mesmerized stock investors this week: 23,000, the latest milestone the Dow Jones Industrial Average surpassed, and 1987, the year of the biggest one-day crash in stock market history, whose 30th anniversary we commemorated Thursday.
(Another big number that got investors’ attention: 51-49, the Senate vote that approved the new federal budget, a necessary step to achieve tax reform, whose prospects appear to be the main reason stocks continue to rise.)
Dow 23,000 symbolizes a bull market that even after 8 ½ years doesn’t look tired. October 19, 1987 was a stark warning of what can happen when markets have gone too far and investors get too complacent.
As I wrote in my MarketWatch column this week, the crash of 1987 was the culmination of nearly two months of market turmoil. Stocks actually peaked on August 25, 1987, and the week before Black Monday was the worst ever.
On Friday, October 16, 1987 the Dow racked up a 4.6%, 100-point-plus one-day loss, which set a record, too. But nothing prepared investors for Black Monday’s 508-point, 22.6% decline.
So, what does it have to do with us today?
Today marked the last time Finnair flight 666 departed Copenhagen, Denmark for HEL.
HEL is not where evil sinners are tormented for eternity, but the three-letter code for the airport in Helsinki, Finland. The airline has flown flight 666—traditionally the Devil’s number—21 times on Friday the 13th, but is retiring the flight number.
Fortunately for the passengers, the pilot wasn’t deterred by the ominous symbolism. “I’m not a superstitious man,” he said. “It’s only a coincidence for me.”
He could well have been talking about investors, too, because Friday the 13th looked like just another lucky day in a bull market that looks as if it will never end.
It’s almost getting tiresome to write, but the Nasdaq Composite index closed at yet another new all-time high, just above 6,600. The S&P 500 and Dow Jones Industrial closed just below their record closing highs, and the Dow is within one-half of a percentage point of 23,000.
What could give this market the evil eye?
The headline number of the September jobs report was bad, but the rest was very strong.
The report, released Friday, showed the U.S. economy lost 33,000 jobs last month, way below the consensus and what we’ve seen much of this year.
Although the Bureau of Labor Statistics said it couldn’t quantify the overall impact of Hurricanes Harvey and Irma, which pulverized Texas and Florida, it did say the two storms likely led to the loss of 105,000 jobs in restaurants, which have been stellar job creators. (The BLS also revised down July’s and August’s new jobs by 38,000, making those two months before the hurricanes look less robust.)
But there was plenty of good news to feast on, too.
First, the unemployment rate fell to 4.2%, its lowest since January 2001. (The nearly half-century low of 3.8% was in April 2000.) The jobless rate for all adults fell under 4%.
Second, labor force participation rose 0.2% to 63.1%, its highest since March 2014, as 575,000 new people entered the workforce last month.
Finally, wages grew at an annual rate of 2.9%, tying last December for the post-recession best.
Sounds like it’s about as good as it gets. So, what’s the problem?
On Wednesday Republican congressional leaders unveiled the outlines of their much-anticipated tax reform plan, and President Trump touted its virtues.
While short on details, the plan’s key provisions are:
- Reduce the statutory corporate tax rate to 20%, from 35%.
- Cut the number of individual tax brackets from seven to three–12%, 25%, and 35%– and maybe include another one for higher-income taxpayers.
- Eliminate the estate tax and alternative minimum tax, a potential windfall for big earners.
- Double the standard deduction and eliminate certain deductions, especially deductions for state and local taxes.
Some Republicans were quick to say the tax cuts would “pay for themselves” through faster economic growth, but nobody except a few supply-side fanatics believes that anymore. The nonpartisan Tax Policy Center estimated the plan would cost the Treasury $2.4 trillion over the next decade. “All income groups would see their average taxes fall,” the group declared, “but…those with the highest incomes would receive the biggest tax cuts.”
Well, surprise, surprise. And now that investors have a clearer idea of what they’ll be getting after waiting so long, what will they do?
After a cool late August and early September, it’s heating up on the East Coast, with daily temperatures in the 80s. And the market has been getting warmer, too.
On Wednesday, the Dow Jones Industrial Average, the S&P 500 and Nasdaq Composite index all hit new all-time highs, and they traded at new intraday highs as I wrote this around noon Friday.
Two key lagging indexes—the Russell 2000 and Dow Jones Transportation index—have been on a tear of late, each gaining 5% since late August. Neither has regained its all-time high—and Dow Theory says the Transports would have to do that in order to confirm the DJIA’s own bull market—but they’re getting there.
I’m impressed by the strength of this rally, which is broad-based. It reflects rising confidence in the economy, which has been growing slightly faster this year, albeit well short of the 3% the Trump Administration is targeting.
It also shows investors’ weariness of the continuing stand-off with North Korea over its missile program; their belief the Federal Reserve may not raise interest rates for the rest of 2017, and their growing confidence that Congress will be able to pass some market-friendly form of tax reform.
To which I say: not so fast.
The stock market is living in a dream world.
Traders and money managers, focusing exclusively on higher earnings and relatively benign monetary policy, are ignoring sky-high valuations, narrowing market breadth, and an economy that’s showing underlying weakness in housing and auto sales and signs of real strain in consumer finances.
They’re also blithely accepting that pro-business tax reform is right around the corner—despite the manifest political difficulties of achieving that—and ignoring the upcoming Washington, DC trifecta of passing a budget, preventing a government shutdown and raising the debt ceiling, none of which is in the bag by any means.
And they’ve been in deep denial about how serious the problem with North Korea is, brushing off the missile test over Hokkaido island, in Japanese air space. The United States is bound by treaty to defend Japan, a core Pacific ally for more than 70 years.
And most of all, they’re in denial about the ability of the current president, Donald J. Trump, to deal with these potential crises, which could reach a crescendo in the fall. I would say, in fact, that traders and investors are so invested in the wishful thinking that tax reform will bring great profits to Wall Street and corporate America, that they are as delusional about this president as his most hardcore supporters.
But at GoldenEgg Investing®, we try to take a more clear-eyed view of these things, and here’s what we think:
Is this the start of a late summer sell-off ?
On Wednesday, the Dow Jones Industrial Average closed above 22,000 again, apparently recovering from a brief decline amid heightened tensions over North Korea’s missile program. If fear of nuclear war couldn’t derail stocks, what could?
Apparently white supremacists and neo-Nazis in Charlottesville, Va.
President Trump’s fevered, contradictory response to the violence in that university town over the proposed removal of a statue of Confederate General Robert E. Lee prompted an exodus of high-profile CEOs from two of the president’s symbolic economic councils and then the collapse of those bodies.
Suddenly Wall Street started worrying that some of the “grown-ups” in the administration, particularly Gary Cohn, director of the National Economic Council and former president of Goldman Sachs, were preparing to bail. Wall Street views Cohn as the linchpin of the administration’s efforts to get tax reform and other goodies for the business community.
The Dow tumbled 274 points on Thursday and was off another 50 points as I wrote this Friday morning.
But there was lots more to this decline than toxic racial politics.