Did you hear that?
A rather boring few weeks in the market might be leading to a boom.
On the surface, the past few weeks have been boring. Back-and-forth pullbacks and rallies. A Treasury sell-off that’s off its lows with real rates still negative across most of the curve. GameStop and other meme stocks still seem to be a sideshow. But the bull market in all things crypto remains impressive. Bitcoin’s market value now tops $1.1 trillion. Clients increasingly want an opinion. Should mainstream investors care about crypto? Perhaps. In recent weeks, Fed Chair Powell called a central bank digital currency “a high priority project.’’ The Peoples Bank of China already has one in trials and nearly nine in 10 central banks surveyed by The Bank for International Settlements are experimenting with one. What might this mean for the world’s reserve currency? A recent IMF study concludes a central bank digital currency could be competitive with the dollar. Wither Bitcoin? Gavekal Research suggests thumbs down, noting that it fails the 3-function reserve currency test: it’s too volatile to act as a standard of value, too expensive to act as a medium of exchange and its supply is limited (the number of mathematical puzzles used to create each bitcoin—further explanation seems fruitless!—indicates a maximum 21 million bitcoins are possible through its source code). What bitcoin is, Gavekal maintains, is a way to hide wealth, the digital age’s version of Swiss bank accounts. Governments are sure to take note. A global spending boom is leaving them desperate for revenue. Indeed, for the first time, the front page of Form 1040 asked if “at any time in 2020, did you receive, sell, send, exchange, or otherwise acquire any financial interest in any virtual currency?” Hard to believe governments will not want to extract their pound of flesh from this bitcoin boom. And once they do, might it go bust?
Weakness during March largely has resided in cyclical value stocks, not surprising given the sharp role reversal relative to Big Tech the past half year. But higher yields, accelerating growth (more below) and seemingly unending fiscal stimulus should support renewed value outperformance. The economy is driving earnings, and earnings—not P/E multiples—are driving market leadership. Earnings-per-share forecasts are being upgraded at their fastest pace in 30 years, abetted by pandemic-driven efficiencies that help sales flow to the bottom line. Looking at the next 12 months, sales in cyclical sectors have room to recover further. Energy is still down by more than 20% since the pandemic began, while consumer discretionary and industrials remain below their pre-Covid levels. There’s more ground to make up on earnings, too. Even with rising projections, forward earnings for value are 17% lower in Europe and 7% lower in the U.S than before the pandemic. Energy stocks are 50% below, autos 10% below and banks, which got beaten up after last Friday’s Fed decision to end a Covid-related break on capital requirements, 30% below. Banks remain flush with deposits at the ready for stimulus-fed borrowers and Covid-weary businesses itching to get going. With more earnings surprises likely, Cornerstone Macro sees a 12% upside for stocks over the next few quarters, especially in cyclical value stocks. Empirical Research likes homebuilding and apparel shares. It says their valuations aren’t fully pricing in the impact of the shortage in housing inventory and the consumers’ desire for a fresh post-Covid look. I know I’m ready to browse mall after mall.
Much of this week’s news flow reflected a recovery that stumbled in February (see below). Blame the weather. There’s every reason to expect a higher gear in coming months. March business and consumer surveys released so far suggest a quickening growth tempo—Markit PMI readings were a blowout (see below), the vaccination program is going well, and both fiscal and monetary spigots remain wide open. As by far the world’s largest importer, the U.S. is helping lift the rest of the world, too. Indeed, Taiwan export orders, a bellwether of Asian activity, have jumped 40% year-over-year (y/y). Consensus expects this year’s U.S. GDP growth to be the highest since at least 1984. The growth differential between the U.S. and much of the rest of the world, along with skyrocketing Treasury issuance to fund record spending, may reverse this year’s mini rally in the dollar. (Not discussed enough, IMO). But that’s a worry for another day. With real disposable income having perhaps its best 6-quarter stretch ever, Credit Suisse anticipates nearly 10% consumption growth this year, supported by new benefits, accumulated savings, reduced distancing and a sharp mood change as a surge in hiring in the in-person services sector revives, with spending flipping from goods to experiences. Yeah, it’s quiet … can you hear that? Buckle up for a crypto/central bank showdown and a thundering consumer/earnings BOOM!
- This is what a V looks like March’s Markit services PMI for the U.S. hit its highest level since July 2014, led by the highest-ever reading in the future output component. Strength was broad based. The manufacturing PMI climbed to just off its all-time high.
- This is what a V looks like Total credit and debit card spending surged 45% over the past year and 23% over the past two years for the seven days that ended last weekend, according to Bank of America. The strong gains came as tax refunds and stimulus checks are pouring in. A UBS survey of 10,000 consumers pointed to a 7-8% jump in spending as restrictions ease and life starts returning to normal, and this morning’s Michigan consumer sentiment reading found Americans are the most upbeat about the economy and their own financial well-being since the start of the pandemic.
- Covid cloud over commercial real estate lifting The Architecture Billings Index—a leading gauge of nonresidential construction activity—jumped the most in almost 16 years in February to its highest level in a year and into expansion territory for the first time in a year. There was notable improvement across regions and property types.
- Blame the weather February’s storms—and chip supply issues for autos—hammered factories, causing durable goods orders to contract and the ATA freight shipments to drop the most since 2012. Still, on a y/y trend basis, durable goods remained on a strong uptrend, with core orders rising at their fastest pace since May 2017. On the trucking front, the ATA expects a strong rebound this spring.
- Blame the weather Low inventory—there are now 1.45 million real estate agents and only 1.03 million homes to sell—played a role in February’s big drops in new and existing home sales, but it was frigid winter storms that kept many potential buyers at bay. Rising mortgage rates may have been a factor, too, though they're still near historically low levels.
- Blame the weather Consumer spending fell in February as shoppers struggled to hit the stores. Personal income also plunged, in part off the outsized gain the month before as stimulus checks hit bank accounts and mailboxes in January. Both are expected to improve significantly this month on a new round of stimulus and the arrival of spring weather.
Have inflation worries peaked? Higher commodity prices and input costs have stoked fears of overheating in the goods market. But with core goods prices already rising at an 8-year-high pace, how much inflation is left in the pipeline? Most of the current strength is demand-driven, with used cars, furniture, cleaning supplies and recreation goods each exhibiting elevated consumption and relatively high inflation. As demand shifts to services, these dynamics should fade. This morning’s PCE report already showed core prices easing to 1.4% on a y/y basis.
Might foreigners do the Fed’s work? A widening gap between yields here and overseas is bringing foreign buyers back into the U.S. Treasury market, easing pressures on the Fed to shift bond purchases out the curve to hold down longer rates. Even after currency adjustments, buyers in Japan and the euro region are picking up roughly 120 basis points for 10-year Treasuries versus comparable maturity German and Japanese government bonds.
What might Dems’ social agenda mean for midterms? Democratic priorities such as voting legislation, policing reform, LGBTQ rights, gun control, etc., are much more controversial than the party’s economic agenda, especially in red states such as West Virginia (home of Joe Manchin) or swing states such as Arizona (Kyrsten Sinema and Mark Kelly). With the slimmest margins in both houses of Congress in memory, eliminating the filibuster to achieve the progressive wing’s priorities will prove to be extremely difficult, Cornerstone Macro says. It would amount to political suicide for Manchin and for Kelly, who faces Arizona voters again in 2022.