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Market Breadth Analysis
There have been a lot of negatives thrown at the economy and markets over the past 10 years. Yet, the secular bull market continues, supported by central bank money printing and ultra-low interest rates. Asset values have risen, supported by ever-lower interest rates; bonds, equities, real estate and collectibles have gained record highs. What catalyst will ultimately see the end to this cycle, where unhealthy government, household and corporate debt levels prove unsustainable?
The takes me back to 1987 (see above), where rising interest rates and crude oil prices ultimately led to a major market correction. The lead-up was similar to today where markets remained strong despite a soft economic environment that had was supported by lower interest rates and increased central bank money supply. Higher interest rates and oil prices ultimately acted as a tax on an already weak environment, and led to the ensuing market correction.
Looking at where we are now with both interest rates and crude oil pricing, this would be roughly equivalent to early 1987 which was about 6-8 months prior to Black Monday (October 19, 1987).
The outlook for interest rates currently is lower-for-longer, and the US Fed has highlighted they will keep Fed Fund rates near zero for an extended period of time. However, the Fed has less control over the longer end of the yield curve and we could still see the latter rise on any uptick in economic growth.
The economy is currently locked down by the virus. Central banks are providing unprecedented money stimulus and we expect to see see a large increase in government spending stimulus. What happens when the virus subsides with all of this support, with interest rates haven already been at 1000-year lows? They are sure to rise.
Increased government spending will not only help the economy, it will boost commodity pricing, including copper and oil, in an environment of constrained supply. The energy sector was the most hated by both investors and those providing capital. Remember, the cure to low oil prices is low oil prices. While everyone is talking about peak demand, supply is going nowhere and global inventories are declining. A rebound in economic activity, including a bounce-back in airline activity at least a partial reversal of work-from-home are sure to have a positive impact on demand.
The technology bubble from the late 1990%27s looks eerily familiar to today: Nasdaq 100 advanced 1000% over a decade; trend overshoot; bottoming of interest rates; and, washout on crude oil pricing. Interest rates bottomed 3 times from 1993 to 1998, only to push further lower in late 1998. Lower rates can be helpful, but can become a problem if the market relies upon the emergency-low rates for ongoing growth; once these ultra-low rates are taken away markets tend to falter.
Get ready for a rhyme!! ["Markets don%27t repeat, but they do rhyme"] Already prognosticators are talking about the potential for markets to have difficulty if 10-yr yields rise to 1.25%. WHAT !!!! The last time the markets were talking this story was in late 2018 when rates approached 3.25%. From a technical perspective it seems likely we get at least a backup to what was major support at the 1.5% level. Markets are relying on ultra-low rates to support extended valuation; however, as rates rise we will eventually have a problem.
It looks like this will play out over the next 8-18 months.
05 MARKET HEALTH Summary: short-term correction completed; expect rally to continue
SPX Market Direction Indicators: bullish
NDX Market Direction Indicators: bearish
Discretionary to Staples: bullish
Discretionary to Utilities: bullish
Industrials to Staples: bullish
Stocks to Bonds: bullish
Corporates to Treasuries: bullish
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