*These are our short term thoughts on the market. We combine our medium-long term model and discretionary outlook when making investment decisions. We’re looking at how the market reacts to news, earnings, and other fundamental themes related to the key individual sectors.
Stock index & news
Since the internet era, most market participants have a herd mentality. Investors sold off like crazy on Wednesday after blowing Trump fears way out of proportion. Then the U.S. stock market soared over the past 2 days and is more relaxed than it should be.
We made a mistake. Previously, we said that Comey had exonerated Trump on May 3 saying that “Trump did not obstruct justice”. This is not true. Comey said that the Department of Justice did not obstruct justice. He said nothing about Trump on that day. #fakenews
So perhaps Comey will reveal a bombshell revelation against Trump. But we still think the odds of that are low. We are wary of the “credible reports” from NYT and Washington Post. These aren’t exactly “unbiased” news sources. To put it bluntly, they hate Trump.
In all honesty, we have no idea when the small correction will begin (or if it has already begun). Predicting the exact top is a futile and waste of time. We just know that the short term risks are high, and this isn’t 1995 (see this post).
There is still a tight positive correlation between oil and the S&P 500. As several traders have mentioned before, there’s a high probability that WTI oil will rise to $51-$52. Oil has risen to $50.4 right now, so perhaps they are right.
*Oil traders think that oil will tag $51 because it’s the 61.8% retracement.
But from a medium term perspective, we still think oil’s supply will put bearish pressure on this commodity. There are 3 oil data sets that investors watch:
- Oil rig count
- Stockpiles (inventory)
The oil rig count increased again this week. But the oil rig count is a lagging indicator to oil prices, so it’s pretty useless for predicting future oil prices.
History also shows that inventory is useless for predicting future oil prices.
Bullish investors were happy that U.S. oil production actually dropped this week. But if you dig into the numbers, you’ll realize that the entire drop was accounted for by Alaska. In the continental U.S., where shale is driving the surge in production, U.S. oil production continues to rise. That is the key. U.S. shale has no intention of putting the brakes on surging production because in large areas of e.g. the Permian Basin, shale costs only $34-$35 to produce.
The energy sector rose the most today because oil prices went up. But despite oil’s overall rally since May 5, XLE’s (oil ETF) rally has been very weak! XLE is still stuck in its downtrend. As we’ve mentioned before, big declines in XLE typically precede the S&P’s small corrections. See the chart.
The financial sector and year-over-year change in interest rates are tied. It’s surprising that U.S. Treasury yields barely went up today despite the surge in oil and commodity prices. Copper, gold/silver, and agriculture all went up today. There has been a strong positive correlation between oil and interest rates recently.
Does this mean that rates are about to fall, which will drag down the financial sector? We don’t know.
But one thing is for sure. Over the past 2 days’, finance’s bounce has been much weaker than the S&P 500’s bounce. Perhaps this means that interest rates will fall a little more in the short term. We don’t know. But one thing is for sure. Interest rates are going up in the medium-long term, which is bullish for finance stocks in the medium-long term. The economy continues to grow and the Fed is maintaining its current rate hike path.
Here’s the financial sector ETF XLF.
The tech sector underperformed the S&P 500’s bounce today. This is to be expected. After rallying much more than the S&P 500 from mid-April to mid-May, it’s understandable that tech’s rally will take a breather.
Who knows when the market will turn down. Perhaps it will fall on next Wednesday’s OPEC meeting & Comey testimony, which are important triggers. Perhaps it will pop higher for one day and then fall. But overall, nothing has changed.
- This is still one of the longest stock market rallies without a small correction in history.
- Our model does not foresee a significant correction. Based on our discretionary outlook, we agree with our model.
- Our model does not foresee a bear market or recession, despite some recent misses in U.S. economic data (vs expectations).
After being up year-to-date 17% in our portfolio, we’re sitting on 100% cash. The key to successful investing is to sit tight and wait for good opportunities. Being long stocks right now is actually the optimal strategy because investing purely based on our model is the optimal strategy. But by being in cash right now, we are reducing our portfolio’s volatility and short term risk.