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Category: Chart of the Week

Is this Sector Pointing to Market Troubles Over the Next 6 Months?

By John Del Vecchio

In Brad’s most recent podcast, which you can listen to here, he talks about how investors need to pay attention to the financial sector as a clue to what might occur in the broader markets.

For example, in 2008, as we were headed to one of the biggest crisis of all-time, banks were weak all year. They were signaling trouble to come. And, boy did it come. While a few investors saw the storm on the horizon most folks had their head in the sand. Just months before the epic collapse, the talking heads on TV were praising the goldilocks economy. It was neither too hot or too cold. Government officials were promoting the idea of green shoots in the economy.

We all know how that turned out.
Is it Déjà vu all over again with the banks?
Take a look at the chart below:

The S&P 500 is marching toward fresh highs. Meanwhile, banks have reversed course and are near intermediate lows. Historically, this has been a warning sign. Three months later, after these conditions have been met, stocks are mostly lower. At worst, we might expect them to be flattish. The same holds true for six months after banks have historically led the way lower.

The record is mixed a year out. Of course, by then the powers to be have had time to react and adjust policy to restore confidence in the markets.

So, where are we today? It’s been on of the best capitalization periods for banks in the U.S. Regulations are also being watered down to the benefit of many financial institutions.

So, this question begs why are banks starting to perform so poorly? What are they signaling about the broader markets and economy?

If history is any guide, we will likely find out very soon.

Why CPI Numbers Suggest Interest Rates Are Too Low Vs. Inflation

The following chart from Shadow Statistics by John Williams compares the official government Consumer Price Index (CPI) with the significantly higher CPI that Williams calculates if the index was measured by pre-1990 methodology when interest rates generally were higher than inflation.  Williams believes that there’s been a sharp deterioration in the last couple of decades in the methodology the government uses to calculate CPI and it doesn’t reflect what consumers and businesses are really experiencing. In any case, both present government-calculated CPI and Williams’ “shadow” CPI show that the current 3% interest rates result in a nominally negative return. What does this mean? Interest rates are likely to go up 2% to 3% to more realistic levels.

Beware: Default Rates Could Be Set To Explode

Debt as a percent of nominal GDP has approached a 30-year high (yellow line), while defaults are hovering at all-time lows (green line). Why does that matter to you? Over the last three decades debt accumulation tended to occur several quarters before the default rates began to accelerate.  This setup, illustrated in the chart,  indicates that a large amount of defaults in the debt market are set to occur again. That historically leads to an increase in interest rates which can have a negative impact on the stock market and other risk assets. Sincere thanks go out to Rodd Mann, who shared the chart with us.

Just How Stretched is the Consumer?

Liz Ann Sonders, Chief Strategist for Charles Schwab, has created her own formula to determine just how much stress the consumer is feeling. Clearly, since 2014 stress has increased sharply. But, this comes at a time when consumer confidence is at highs.

In addition, recessions appear to occur at levels above zero on the chart. Currently, we are above those levels.

The great thing about Sonders’ formula is it factors in expenses that hit us all in the real world. Things like food and energy costs the government typically downplays. My energy costs have gone up and I can clearly feel that. I also just received an increase in my healthcare costs starting next month. That money has to come from somewhere! If it comes out of discretionary spending, then the local coffee shop and grocery store will start to feel the pain. The recessions form.

There’s one factor clearly stressing out the consumer. Student loan debt. And, this might understate the pain an entire generation of Americans are feeling. While consumer confidence is at highs, 44 million Americans have $1.4 trillion in student loan debt. That compares to $640 billion during the crisis of 2008. In addition, home ownership among has fallen from 32% in 2007 to 21% in 2016. The weight of this debt is crushing.

If consumer confidence is high but consumers are also stressed, then what gives? Well, sometimes people say one thing and do another. I would always take government statistics with a grain of salt. Debt levels aren’t going away and incomes aren’t growing.

The next recession is likely to be a doozy!

This Indicator is Flashing Warning Bells for the Market

By John Del Vecchio

The New York Stock Exchange (NYSE) Bullish Percent index is creating a potential bearish divergence with the S&P 500. This could be suggesting a lot of weakness under the hood of the market.

The bullish percent is the percentage of stocks in bullish patterns using point and figure charting. Point and figure charting has been around since before 1900 and is a simple chart showing price movement (X’s for up and O’s for down). It makes it easy to see trends in the prices of stocks. In addition, stocks are either on a “buy” or a “sell” so the analysis could not be clearer.

The beauty of the NYSE Bullish Percent is that is shows stocks moving up and down in the aggregate. Importantly, each stock gets a single vote. This differs from the S&P 500 because the S&P is market capitalization weighted. So, a stock like Apple gets significantly more weight than Waste Management. The top 5 stocks in the S&P 500 are 12-15% of the total index. In the NYSE Bullish Percent, they are all the same.

Most people use the S&P 500 when they talk about “the market”. But, what’s going on in the market could be quite a bit different than what is going on with the typical stock. We can see this in the chart below.

The green line is the S&P 500. The blue line is the NYSE Bullish Percent. Prior to the butt kicking the S&P took in February, both of these lines mostly moved in tandem. The S&P made new highs as did the bullish percent.

But, recently that relationship has weakened. The S&P 500 has rebounded and is close again to new highs. Small cap indexes hit new highs recently as well. However, the bullish percent figures are lagging. The one stock, one vote nature of the index is letting you know that not as many issues are participating in the rise of “the market.”
You might see this in your own portfolio. The market may be making new highs but your holdings are lagging. In healthy markets, we expect to see lots of stocks making new highs. At the very least, we would like to see them back into uptrends.

That’s not happening.

The danger here is that by the time the S&P 500 rolls over, the average stock could be down 10-20%. This is useful gauge to monitor the health of the market in aggregate.

Right now, it is sending off some warning bells that things are not as strong as they appear to be.

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