Our friends at Bespoke issued a good report last week that showed that the S&P 500 is off to a great start this year with more than 73% up days in the first 37 trading days. Since 1961, there have been 8 similar strong starts to the year like this year. On average, the S&P 500 rose an average of 10.35% for the remainder of the year the other 8 times, with the smallest increase being 4.43% (2012) and the largest gain being 26.5% (1995). So let’s hope that history repeats.
In the meantime, CNBC keeps talking about an “earnings recession,” which is starting to spook many investors. It is important to remind all investors that even though China’s GDP growth has slowed, plus Britain and the European Union (EU) are teetering on a recession, the U.S. remains an oasis, which is why the U.S. dollar remains so strong. Big multi-international companies, like Caterpillar, are being paid in eroding foreign currencies and their earnings are being impacted by a massive currency headwind. However, domestic companies, especially many small to mid capitalization stocks, are largely immune to any significant currency headwind and remain an oasis. In summary, if you just focus on FAANG stocks or other stocks that have been “hyped” by financial media, the stock market can be scary. Fortunately, the silver lining and critical path to now follow are clearly domestic stocks, especially small to mid capitalization stocks.
As an example of a “hyped” stock that is now struggling, Tesla was definitely impacted by the SEC request in federal court to hold Elon Musk in contempt over recent tweets that were supposed to be pre-approved. Specifically, Musk’s February 19th tweet that “Tesla made 0 cars in 2011, but will make around 500k in 2019” conflicted with the official guidance that the company provided in a January 30th shareholder letter that as many as 400,000 vehicles would be delivered in 2019. Interestingly, on February 19th, Musk hours later clarified his tweet by saying that he “Meant to say annualized production rate at end of 2019 probably around 500k, i.e., 10k cars/week” and then added that “Deliveries for year still estimated to be around 400k.” The SEC said that Mr. Musk “did not seek or receive pre-approval prior to publishing this tweet, which was inaccurate and disseminated to over 24 million people.” Musk subsequently tweeted that “SEC forgot to read Tesla earnings transcript, which clearly states 350k to 500k” and then added “How embarrassing ...,” Yikes! This will be an interesting case in federal court, since normally, a defendant is not suppose to publicly mock a regulator, especially on Twitter!
In the meantime, Elon Musk confirmed on Thursday that Tesla is not expected to make money in the first quarter due to one-time charges and other financial commitments. Specifically, Musk said “Given that there is a lot happening in Q1, and we are taking a lot of one time charges, there are a lot of challenges getting cars to China and Europe, we do not expect to be profitable. We do think that profitability in Q2 is likely.” Tesla’s stock remains volatile, due to erratic quarterly results and the probability of an unfavorable federal court ruling.
A much more important federal court case is the fact that the NYSE, NASDAQ and the CBOE recently sued the SEC in a federal appeals court to stop the Transaction Fee Pilot, which the SEC approved in December. This legal confrontation is unprecedented, since after seeking public comment, the SEC ignored the objections from the plaintiffs and proceeded anyway to limit the fees that they can charge for trading. The Transaction Fee Pilot is supposed to start in late 2019 and has perturbed the NYSE, NASDAQ and the CBOE, because it undermines a widely used system of fees and rebates called “maker taker” when the exchanges pay rebates to brokers for some orders as well as charging fees for other orders.
In defense of the SEC, critics of the maker-taker system say that it harms investors by encouraging brokers to send their clients’ orders to the exchange that pays the biggest rebate, rather than the exchange that gives clients the best result. The Transaction Fee Pilot, which could last up to two years, would slash the fees that exchanges can charge for trades in hundreds of stocks and effectively forcing them to cut rebates for stocks as well.
Now in defense of the NYSE, NASDAQ and the CBOE, in their complaint they say that the Transaction Fee Pilot would widen “bid-ask spreads.” Furthermore, the exchanges have also voiced concern that trading would shift to off-exchange “dark pools” and private trading platforms run by some big banks. According to the CBOE, almost 40% of U.S. stock trading volume occurs outside of the exchanges, so that percentage would likely rise under the Transaction Fee Pilot. In the past, the D.C. Circuit Court has in the past vacated SEC regulations after finding the agency did not adequately consider their impact on capital raising or competition. Overall, this will be a fascinating case, since the exchanges clearly do not want to lose more trading volume and control over stock trading.
Assuming that the SEC ultimately prevails in federal court and the Transaction Fee Pilot is implemented later this year, there will be a risk that the stock market’s liquidity may become more erratic. I do not want any investors to worry, since my Quantitative grade calculates something called “residual variance” or “unsystematic risk,” which is the random risk associated with trading. In other words, if unsystematic risk rises, then stocks will naturally have a lower Quantitative grade as volatility rises. As a result, this is a good time to remind all investors that as risk rises, both Navellier's Dividend Grader and Stock Grader databases will naturally adapt to market volatility. See link:
Speaking of regulators, Fed Chairman Jerome Powell appeared before Congress last week and did a good job explaining how the Fed is striving to promote steady economic growth. Specifically, in his prepared testimony to Congress, Powell said “While we view current economic conditions as healthy and the economic outlook as favorable, over the past few months we have seen some crosscurrents and conflicting signals.” Key words like “conflicting signals” that justify a “patient approach” regarding future key interest rate changes, clearly signaled that the Fed Chairman is dovish. What I find especially interesting is that Powell continues to be influenced by global events, since he said “growth has slowed in some major foreign economies, particularly China and Europe.” I should also add that the Fed’s favorite inflation indictor, the Personal Expenditure Consumption (PCE) index rose only 0.1% in December and decelerated to an annual pace of 1.7% in 2018, so as long an the PCE remains below the Fed’s target of 2%, the Fed is expected to remain accommodative.
As I have recently said, Brexit is expected to be a major event, since companies, like Honda, are increasing fleeing Britain due to uncertainty over tariffs and the underlying business environment. Yet, despite this uncertainty, both Britain and the European Union are now seeking to delay the March 29th Brexit deadline. Specifically, Prime Minister Theresa May has promised that Parliament will have a chance vote to extend the Brexit deadline on March 12th. However, Prime Minister May does not want to delay Brexit beyond March 29th, so this vote in Parliament seems to be more about appeasing rebellious lawmakers and ministers that believe a “no deal” exit would be a disaster.
The EU is hoping for a Brexit extension, but remains divided on the timeline. Overall, it is apparent that politicians are doing what they do the best, which is to “kick the can down the road,” which is shaping up to be a disaster for both Britain and the EU. The business community cannot properly plan amidst all this Brexit uncertainty, so both the British pound and euro remain weak, plus impending recessions for Britain and the EU look inevitable.
In the meantime, Venezuela remains a humanitarian disaster. The fact that the Venezuelan military violently blocked trucks with food and medical aid on both the Brazilian and Columbia borders is expected to cause more desertions. Columbia has reported on Tuesday that 320 soldiers deserted in a span of four days. There are an estimated 200,000 troops in the Venezuelan military, so there are not mass defections yet. However, many of the soldiers are also hungry due to acute food shortages, so it appears that it is just a matter of time before the military sides with the Venezuelan people, even though the Generals have gotten rich from the Maduro regime.
Last week, Vice President Mike Pence and Venezuelan opposition leader Juan Guaido agreed on a strategy to tighten the noose around President Maduro and his generals. Specifically, Pence announced more sanctions against Venezuela and $56 million in aid for neighboring countries with Venezuelan refugees. The detention of Univision’s Jorge Ramos and the seizure of his crews cameras after Ramos asked Maduro about “videos of some young people eating out of a garbage truck” is expected to help increase the international pressure to oust Maduro. Ramos and his Univision crew were then subsequently deported from Venezuela. Overall, Pence said regarding Maduro that “We hope for a peaceful transition to democracy but President Trump has made it clear: all options are on the table” and then added that President Trump is “100%” in support of Juan Guaido.
The economic news last week was largely positive. On Tuesday, Case-Shiller reported that its 20-city index home prices rose 0.2% in December and 4.2% in the past year. Twelve of the 20 cities surveyed actually posed home prices declines, with San Francisco posting the biggest decline of -1.4%. Interestingly, homes in high tax states were experiencing the biggest declines, so the new federal tax policy that is limiting state income and property tax deductions is may be adversely impacting homes with high property taxes in high tax states. Nationally, home prices are now appreciating at the slowest pace in over four years (since November 2014), so median home prices are expected to continue to stabilize in the upcoming months. This is great news for the inflation statistics and will help convince the Fed to not raise key interest rates in the upcoming months.
The exciting news on Tuesday was that the Conference Board announced that its consumer confidence index surged to 131.4 in February, up from a revised 121.7 in January. This was truly a big surprise, since economists were expecting the consumer confidence index to come in at 124.7. The expectations component soared to 103.4 in February, up from 89.4 in January. There is no doubt that the end of the federal government shutdown boosted consumer confidence. Improving weather in the spring also tends to boost consumer confidence, so I expect that consumer confidence index will hit an 18-year high in the upcoming months.
On Wednesday, the National Association of Realtors announced that pending home sales surged 4.6% to 103.2 in January, which was substantially higher the economists’ consensus estimate of a 1% increase. Despite this good news, in the past 12 months, pending home sales declined 2.3%, which is the 13th straight month than pending home sales have declined on a trailing 12-month basis. Now that both home prices and mortgage rates have moderated, pending home sales may steadily improve, especially as the weather improves in the upcoming months.
On Thursday, the Commerce Department announced that GDP rose at an annual pace of 2.6% in the fourth quarter, which was substantially above analyst consensus estimate of a 1.9% annual pace. For all of 2018, GDP rose at an impressive 2.9% annual pace, which matches 2015 as a strongest year in the past decade. GDP growth decelerated from a 4.2% annual pace in the second quarter and a 3.4% annual pace in the third quarter. The Commerce Department noted that “The deceleration in real GDP growth in the fourth quarter reflected decelerations in private inventory investment, PCE, and federal government spending and a downturn in state and local government spending.”
Overall, we remain in a “Goldilocks” environment characterized by a lack of inflation, moderate interest rates, a dovish Fed and a strong U.S. dollar. There is no doubt that the U.S. remains an oasis amidst the impending Brexit chaos and concerns about global GDP growth. The biggest challenge that investors have is identifying stocks that will sustain strong sales and earnings momentum in a decelerating environment. Fortunately, thanks to both Dividend Grader and Stock Grader, Navellier has the computing power to data mine thousands of stocks and identify the crème a la crème.
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