This is a stock mar­ket rally to rent, not own

The Globe and Mail (BC Edition) - - REPORT ON BUSINESS OPINION & ANALYSIS - DAVID ROSENBERG

Chief econ­o­mist with Gluskin Sh­eff + As­so­ciates Inc. and au­thor of the daily eco­nomic news­let­ter, Break­fast with Dave

Some econ­o­mists are pub­lish­ing work show­ing that the stock mar­ket has only ac­cu­rately pre­dicted half of the postSe­cond World War re­ces­sions, but this is a du­bi­ous as­ser­tion. Ev­ery sin­gle peak in the busi­ness cy­cle his­tor­i­cally fol­lowed the peak in the mar­ket cy­cle by an av­er­age of six months. Our pro­pri­etary cycli­cal eq­uity mar­ket com­pos­ite fell 22 per cent from the peak, and that alone spells a 67-per-cent chance of re­ces­sion. The yield spread be­tween the two- and five-year bonds in­verted, and this too spells an 80-per-cent chance of re­ces­sion. And what do you know, but 80 per cent of all Fed tight­en­ing cy­cles were fol­lowed by an eco­nomic re­ces­sion. But the typ­i­cal econ­o­mist or strate­gist never seems to think that a re­ces­sion will hap­pen – even though we’ve in­curred 10 of them since 1950. De­nial will only take you so far.

On top of that, cop­per and steel are still in bear mar­kets, down 20 per cent, and tell me that lum­ber isn’t braced for eco- nomic con­trac­tion, hav­ing plunged 50 per cent (!) from its nearby high. Fully 14 bell­wether com­pa­nies have ei­ther is­sued warn­ings or missed their quar­terly sales/profit es­ti­mates in re­cent weeks. Macy’s, Kohl’s, L Brands did not have very good re­ports and in­vestors must be see­ing some­thing in Tar­get’s out­look that took its share price down nearly 3 per cent on Thurs­day (even as the com­pany posted de­cent sales fig­ures). And that’s not to men­tion the air car­ri­ers, which slid yes­ter­day on the trimmed profit guid­ance by Amer­i­can Air­lines. This is a warn­ing shot from the mar­ket that we can­not ex­pect the U.S. con­sumer to carry the load again in 2019.

None of this means that this trad­able eq­uity rally has to run out of steam. But, it does mean this is a rally for traders to rent, and not for in­vestors to own. The mar­ket had be­come woe­fully over­sold at the Dec. 24 lows, and ev­ery time we have seen such a melt­down, a brief but sharp rally took hold. All the more so in the on­set of a bull mar­ket – the best days ever for the S&P 500 took hold in 2002 and 2008. What is typ­i­cal in a bear mar­ket rally is that the S&P 500 bounces 16 per cent from the nearby lows and in the process re­verses 75 per cent of the peak-to-trough de­cline. So on that ba­sis, this rally can take the in­dex to 2,700 and that does not change one thing from a funda- men­tal ba­sis. It leaves the peak at Sept. 20, and re­mem­ber – peaks in the mar­ket al­ways lead peaks in the econ­omy.

We have to put this bounce­back in the con­text of the worst De­cem­ber since 1931. Think about that for a sec­ond: the worst De­cem­ber – a nor­mally pos­i­tive sea­sonal pe­riod of the year – since the depths of the Great De­pres­sion. This is not a de­pres­sion we are talk­ing about now, nor is it any­thing close to 2008/09. It is just the cy­cle at play – that’s it. And it’s what nor­mally hap­pens at this stage of the mon­e­tary pol­icy cy­cle, too. His­to­ri­ans will be writ­ing about how the Fed, as it has done on so many oc­ca­sions, over­tight­ened this time around (both the Septem­ber and De­cem­ber rate hikes were overkill). We will find out that this view of the “neu­tral” funds rate be­ing 2.75 pert cent was around 75 ba­sis points too “rich.”

But back to the mar­kets. Let’s go back to what hap­pened after De­cem­ber, 1931. Even in the con­text of that truly hor­ri­ble macro en­vi­ron­ment, the stock mar­ket set­tled down nicely for two months as the over­sold tech­ni­cal con­di­tion got re­dressed (in fact, the S&P 500 re­bounded nearly 20 pert cent from the over­sold lows). But, within the en­su­ing four months, the ma­jor av­er­ages were down more than 40 per cent. Now this is not at all a “call” or fore­cast, but rather an ob­ser­va­tion that what we are see­ing to­day is likely not what we will be see­ing a few months from now. Just as last year, by the end of Oc­to­ber, pretty well ev­ery­one for­got that the stock mar­ket be­gan the year in Jan­uary with its best start since 1987.

His­to­ri­ans will be writ­ing about how the Fed, as it has done on so many oc­ca­sions, over­tight­ened this time around (both the Septem­ber and De­cem­ber rate hikes were overkill).

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