This morning, the much watched yield curve has inverted for the 2nd time with 10-year Treasury yields (2.27%) dropping below 3 month T-bill rates (2.36%). Many view the yield curve inverting as an early signal of recession. For those that view the glass as being half full, most people look for the 10 year vs the 2 year inversion and that hasn't occurred yet. Secondly, once the inversion takes place, the market often doesn't peak until months later. For those that view the glass as half empty, the inversion is a sign that the bull market is nearing an end.
European growth peaked at the end of 2017 and has been slowing ever since. Despite the ECB saying there is no recession in Europe, there is mounting evidence that Europe is entering a recession. Germany, which is often seen as the engine of the Eurozone, saw its GDP contract in the 3rd quarter and its manufacturing PMI fell below 50 in January. Italy has waived the white flag and is already in recession with the European Commission forecasting just 0.2 percent growth for 2019. The ECB just stopped its asset purchase program in December and now may have to try to stimulate again.
We are currently in the thick of earnings season as companies are reporting their quarter ending December 31st. Expectations are for S&P 500 earnings growth of over 20% which is an extremely strong number especially considering that the previous year grew a healthy 12%. However, lapping that type of growth is going to be a challenge, and forecasts are being revised down quickly for the first half of 2019. That is why we believe there is a growing likelihood of a slight earnings recession occurring in 2019.
The stock market has rallied nicely to start 2019 but we think there is a big problem. The major central banks, the Fed, ECB and BoJ, have pumped up asset prices since 2008 with a massive liquidity injection of $11 trillion. They kept interest rates at ridiculously low levels on the short and long end of the curve and investors were forced into risk assets. This grand experiment is known as quantitative easing. Now is the more difficult part called quantitative tightening, the central bankers are trying to normalize policy.
This is one of my favorite posts to write every year as we get to look back on Wall Street predictions and see how they panned out. We have done this in 2014, 2015, 2016, 2017 and 2018 so it is a tradition to see which strategists did well and which missed the mark.
Last year, the strategists predicted a bull market for 2018 with an average target of +6%, 2850, for the S&P 500. Those predictions looked pretty good heading into the fourth quarter, but after a sharp decline, all of them badly missed the mark as the S&P 500 suffered through a terrible stretch and hit a year to date low of 2346 on Christmas Eve. The best of the best was Citibank's Tobias Levkovich and UBS's Ben Laidler who both predicted a slightly down year. Now let's take a look at their thoughts on 2019...
Since the end of September, the market has been shaken by the China trade dispute, Fed rate hikes and a government shutdown. On October 31st, I wrote "Is the Fed triggering the next bear market?" and Runnymede began taking some risk off the table for client accounts. We believe this is prudent given that we are in the 2nd longest economic expansion in history. While economic data hasn't shown signs of a recession as of yet, growth has certainly slowed and the government has less ammunition with its ballooning budget deficit. With stock market risks rising, the current administration is looking for answers and trying to instill calm, but it has had the opposite effect.
With the shopping frenzy of Black Friday and Cyber Monday, we now turn to #GivingTuesday which is a day of charitable giving. Started back in 2012, this important day has been growing by leaps and bounds. In 2014, non-profits raised $45 million and that figure grew to over $300 million in 2017!!! Now that is some great impact. However, if you consider that online sales from Cyber Monday topped $7.9 billion, we still have a long way to go to catch up. Imagine the positive change, if those numbers were reversed.
Alibaba had another incredible sales day with a reported $30.8 billion in sales in 24 hours, its 10th annual Singles' Day sale. The growth actually slowed to 27% which was the slowest growth for the Chinese internet giant. The sales number dwarfs the revenue from all US retailers during Black Friday ($5 billion in 2017), Cyber Monday ($6.6 billion in 2017) and Amazon Prime Day ($4.7 billion in 2018) combined. That is an incredible feat and shows the power of the Chinese consumers.
Today, Blackrock's CEO Larry Fink warned investors that the US is heading towards a "supply problem" as the widening budget deficit, expected to top $1 trillion annually starting in 2019, requires more borrowing. This is an issue that investors have never seen before. Typically government spending is restrained at the end of an economic expansion; however, this administration is stepping on the accelerator with neither party emphasizing fiscal responsibility. This could pose a huge problem if a recession hits over the next couple of years.
October has been a rough month for the stock market with the recent downdraft wiping out index gains for the entire year. The deterioration has been rapid despite a strong earnings season and overall S&P earnings increasing by nearly 30 percent. It is highly unusual for earnings and stock prices to diverge to this extent. Something is obviously deeply troubling investors, and we wonder if the Fed is triggering the start to the next bear market?
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