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'I hope you're right'

A little volatility can represent an opportunity.

What better way to escape the last week of snowy January weather than my annual trip to Florida. Lots of end-client events, starting with Mount Dora, where it was hard to even find a hill. Concerns about a 1929 comparison to the ebullient bull were balanced by an advisor suggesting his clients are turning more defensive. After my talk, a gentleman complimented my bullish speech, finishing with, “I hope you’re right.” Then off to South Florida, where my local colleague reminded me of the big “weather hug” I gave him a few years ago, stepping off the badly delayed plane while escaping the polar vortex up north. The snow birds are everywhere—clogging roadways and restaurants. I was told Florida surpassed New York last year to become the nation’s third-most populous state. We had numerous meetings in Naples, referred to as “God’s waiting room” just 20 years ago, when its median age was 63. Now it’s 47. Much like early in the week, investors there are conservative. When discussing my melt-up watch, another advisor asked, “When will you know it’s a melt-up? Will you call me?” There was not a lot of melt-up discussion this week as the markets stumbled out of January. News of an Amazon-JPMorgan-Berkshire health-care venture may have been the catalyst, but it is the underlying worries about inflation, the Fed and longer yields that is rippling through the indexes.

Stocks tumbled this morning as the 10-year yield blasted through 2.80% on a pickup in hourly earnings in January’s jobs report (more below), with markets pondering if the three rate hikes the Fed signaled again this week for 2018 might turn into four. A “nominal surprise” forcing yields higher than expected at a time investors have priced the financial markets for an ongoing sweet spot is a primary risk in 2018. I have argued for the past five years (correctly) that inflation risk was benign given the link between wages and the unemployment rate has been severed and that global disinflationary forces are much more pronounced than in the past. But if we’re ever going to get inflation, this will be the year—unemployment is at a 17-year low and growth is ramping up all over, money is still cheap and now we’ve added fuel to the fire with the massive tax cut. The global OECD composite leading indicator rose a 21st straight month in November to a 3-year high and a level indicating above-trend growth, and various country PMIs reported increased signs of rising inflation. At a raucous evening client event in Bonita Springs, north of Naples, I was asked again what signals would indicate inflation has become a problem for bond yields. (For sure, advisors and their clients are on edge, expecting a sharp correction, possibly without warning.) During a chilling discussion with a couple of technology experts in the group, I was warned about the ease of cyberterrorism and, forget AI (artificial intelligence), the real risk is ASI (S standing for superior, meaning perhaps, sinister). OK, my nightmares were are set up for that night. At an intimate client lunch for the ultra-wealthy, I heard again as I did last week in San Francisco, the desire for conservative income-oriented investments.

January’s 5.6% gain was the 11th best since 1950; historically, when the S&P 500 has been up the first month of the year, Ned Davis Research says the average February-December gain has topped 12%. Momentum and breadth remain strong, suggesting any near-term correction should be followed by a rebound to higher (although possibly narrower) new highs. Earnings and forward earnings revisions this reporting season have been very supportive, with S&P revenue growth forecast to increase in all 11 sectors for the first time in more than three years. Internationally focused corporations are expecting the biggest sales gains, reflecting the impact of globally synchronized growth and the new tax law’s favorable treatment. Of the companies providing guidance on their expected tax rate, earnings-per-share has risen 6.5% relative to December levels vs. 1.8% for the remaining S&P firms. Technical indicators suggest a healthy albeit extended market amid signs of overbought conditions and tightly stretched optimism—the Investors Intelligence survey of newsletter writers puts the percentage of bulls just below a 32-year high, and the Ned Davis survey of traders’ sentiment is at a record high. Moreover, volatility is stirring, with the VIX up 32% year-to-date. Toward the end of the week, finishing another client event in Naples, I was told by an investor, eerily, again, “I hope you’re right.” At an elegant yet informal client event, right on the beach, for one of my favorite advisors, we were treated to the most magnificent sunset I have ever seen. Deep shades of red and orange mixed with brilliant yellows; a longtime resident agreed with me that it was one of the prettiest sunsets he had ever seen. Am I right? It’s likely.


Strong jobs green-light higher wages Nonfarm jobs rose a better-than-expected 200K in January, and December’s gain was revised up, too. Broad-based increases were affirmed by even stronger ADP private payroll growth and jobless claims that continue to hover around generational lows. The jobless rate held at 4.1%, with average hourly earnings (more below) the big surprise.

Manufacturing hums The ISM gauge for January came in well above consensus and close to its highest level in seven years, consistent with above-trend expansion and coinciding with a 4.8% real GDP growth rate. Markit’s separate manufacturing PMI was similarly robust, reaching a 3-year high. The national reports reflected broad-based improvement, reinforced by strong Chicago and Texas regional readings and another jump in factory orders.

Consumers very confident The Conference Board gauge posted an above-consensus gain in January, rising to near its highest level since December 2000. Final Michigan sentiment climbed on rosier expectations, while the Bloomberg Consumer Comfort Index jumped to its highest level since March 2001 as consumer attitudes continued to soar. The increased confidence bodes well for more solid consumer spending growth in 2018.


If we’re ever going to get inflation, this would be the year This morning’s jobs report saw average hourly earnings jump 2.9% year-over-year (y/y) and December’s pace was revised up to 2.7%. On a y/y basis, the Employment Cost Index also rose at its fastest pace since Q4 2008, with private sector wages and salaries increasing 2.8% y/y, the biggest gain since Q1 2015 and the second most since Q3 2008. Sluggish productivity growth (below) and a weak dollar also are putting upward pressure on core PCE inflation and prices generally.

Will tight supply undo housing? Pending sales ticked up in December amid more signs a lack of adequate inventory is retarding sales growth as potential buyers can’t find what they want or can’t afford it if they do. The Case-Shiller gauge of home prices rose 6.2% y/y in November and has been climbing continuously since early 2012, primarily because of low inventory. The homeowner vacancy rate is at its second lowest level since Q1 2001, and the rental vacancy rate is near 1985 lows. Ned Davis puts the shortage of housing units at 1.4 million. The National Association Realtors expects home sales to rise 0.5% this year, half 2017’s pace.

Sluggish services the culprit Q4 productivity unexpectedly slipped and was up just 1.2% for the year—still better than 2016’s 0.1% decline. Longer-term, the 5-year average trend was little changed at 0.8%, still close to its slowest pace since 1983 and a far cry from the historical average of 2.0%. A notable exception: manufacturing, where productivity surged at a 5.7% annual rate, led by a 7.3% jump in output, both rising by the most since Q2 2010. This means all the year-end weakness was in services.

What else

Reagan 2.0? A CNN poll showed that 48% of viewers had a very positive reaction to Trump’s State of the Union speech, and 22% had a somewhat positive reaction—so 70% liked it. Except the press. IESB says it has to wonder if we're beginning to see the emergence of a crude version of Ronald Reagan, i.e., pro tax cuts, military might and business with an anti-government/anti-regulation bent.

This is Gr8! President Trump last year tweeted an average 6 per day; Twitter is his primary point of contact with outside world. According to Echelon Insights, an opinion research and digital technology firm, the president was not the daily top Twitter topic of conversation for only 17 days. There were 2.8 billiontweets in the U.S. in 2017 and 32% of them mentioned Trump. The most commonly used word: great. Used in 19% of all tweets.

Here we go Steagles Unfortunately, my team won’t be playing this weekend. But a Philadelphia fan in Naples suggested I root for the Eagles, “especially since the model’s husband is the other quarterback.” Besides, we have a history with the Eagles. Because many men were on the battlefield during WWII, the 1943 football season created the Steagles by the temporary merger of the two Pennsylvania teams.

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Views are as of the date above and are subject to change based on market conditions and other factors. These views should not be construed as a recommendation for any specific security or sector.

Bond prices are sensitive to changes in interest rates, and a rise in interest rates can cause a decline in their prices.

Gross Domestic Product (GDP) is a broad measure of the economy that measures the retail value of goods and services produced in a country.

Personal Consumption Expenditure (PCE) Index: A measure of inflation at the consumer level.

S&P 500 Index: An unmanaged capitalization-weighted index of 500 stocks designated to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries. Indexes are unmanaged and investments cannot be made in an index.

The Bloomberg Consumer Comfort Index is based on weekly telephone survey of consumers seeking their views on the economy, personal finances and buying climate.

The Chicago Purchasing Managers Index, produced by the Institute of Supply Management-Chicago, gauges factory and services health in the upper Midwest based on surveys of companies in that region.

The Conference Board's Consumer Confidence Index measures how optimistic or pessimistic consumers are about the economy.

The Employment Cost Index (ECI) is a quarterly measure of compensation costs for U.S. businesses.

The Federal Reserve Bank of Dallas' monthly Texas Manufacturing Outlook Survey is a measure of the current level of activity and expectations for the future.

The Institute of Supply Management (ISM) manufacturing index is a composite, forward-looking derived from a monthly survey of U.S. businesses.

The Investors Intelligence bull–bear ratio is a measure of market sentiment derived from a weekly survey of individual investors who are asked to rank themselves as bullish or bearish.

The Markit PMI is a gauge of manufacturing activity in a country.

The OECD composite leading indicator is designed to provide early signals of turning points between expansions and slowdowns of economic activity in member countries.

The pending home sales index, released monthly by the National Association of Realtors, is designed to be a leading indicator of housing activity.

The S&P/Case-Shiller Home Price Indices measure track changes in the value of the residential real estate market in major metropolitan regions.

The University of Michigan Consumer Sentiment Index is a measure of consumer confidence based on a monthly telephone survey by the University of Michigan that gathers information on consumer expectations regarding the overall economy.

VIX: The ticker symbol for the Chicago Board Options Exchange (CBOE) Volatility Index, which shows the market's expectation of 30-day volatility.

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