*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.
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The U.S. dollar’s bear market will be bullish for stocks
*We don’t trade currencies. We care about the U.S. dollar only to the extent that it impacts the U.S. stock market.
Around 50% of the S&P 500 companies’ revenues come from overseas. When the U.S. dollar falls year-over-year, corporate revenue and earnings growth increases year-over-year . Earnings growth impacts the medium-long term outlook for the U.S. stock market.
*A falling U.S. dollar does not benefit earnings growth. The U.S. dollar must fall year-over-year for revenue and earnings growth to rise because revenue/earnings is quoted in year-over-year terms.
As we explained in “Q2 2017 earnings season will probably be strong“, a falling U.S. dollar will start to have a positive impact on U.S. corporate earnings by Q4 2017. Here’s why we think the U.S. dollar will continue to fall in the next few years.
Based on cycles….
Cycles don’t work in the U.S. stock market. However, cycles seem to work in the currency markets. Based on the U.S. Dollar Index’s limited history, the U.S. dollar’s bull markets don’t exceed 4.7 years.
So based on a cycles perspective, the U.S. dollar’s top is already in or is very close to being in. We think the U.S. dollar’s top is already in.
Based on fundamentals…..
Money flow determines the U.S. dollar’s long term direction. When money flows very strongly to the U.S., the U.S. dollar soars. When money flows very strongly out of the U.S., the U.S. dollar tanks. When money flows in/out of the U.S. aren’t very decisive, the U.S. dollar swings sideways in a big range. Here’s the history.
- Late 1970s/early 1980s: due to massive interest rate differentials (the Fed hiked U.S. interest rates to 20%), foreign investors flooded into the U.S. bond market. They converted foreign currency to USD before buying U.S. bonds. Then the 1980s began with Reagan’s America, which saw unprecedented U.S. economic opportunities. Money flowed decisively to the U.S.
- 1985-1990: for those who are old enough to remember, this was the “rise of Japan”. Japanese businesses were booming, and everyone was afraid that Japan would overtake the U.S. Money flowed decisively to Japan (and other Asian emerging markets).
- 1995-2000: this was the internet bubble. The internet bubble was largely confined to the U.S. while Europe/Asia’s internet growth lagged that of the U.S.. Hence, foreign investors flooded into American stocks. Money flowed decisively to the U.S.
- Early 2000s: this was the rise of China. With massive business opportunities in China, American businesses flooded the Chinese market. Money flowed decisively from the U.S. to China.
- 2013-2015: all foreign economies were going downhill while the U.S. grew decently. China, Europe, and emerging market economies all tanked. Money flowed decisively from non-U.S. countries to the U.S.
Money is about to flow from the U.S. back to China, Europe, and emerging markets. In 2013-2015, non-U.S. economies sucked (for lack of a better word). But the global economy is recovering right now. Foreign investors are taking their money back and buying assets in their own countries again. Non-U.S. assets are cheaper than U.S. assets in many of these cases. For example, the U.S. stock market has soared over the past few years while the Chinese stock market has been flat. Here is China’s SSE Index (monthly bar chart).
*Our sister fund trades currencies (primarily the USD/EUR pair), so we have a decent understanding of the currency markets.
We published a post today titled “oil’s bear market will not cause a bear market or significant correction in U.S. stocks“.
A lot of long term investors that we know are aggressively buying oil stocks. The energy sector has retraced 50% of its January-December 2016 rally.
June seasonality is playing out
As we mentioned in our June 20 outlook, the U.S. stock market is seasonally weak in late-June. That seasonal weakness has played out thus far. Based on a historical pattern, this week the S&P will close below last Friday’s close. The S&P closed at 2433 last Friday, and it’s at 2434 today. We’re almost here.
Nothing has changed since our June 21 bottom line.
- Our model says that this is a big rally in a bull market. There is no significant correction on the horizon.
- Despite our model’s bullishness, we’re sitting on 100% cash. By the end of June 2017, the current “small rally” will be longer than 96% of all historical small rallies.
- We’re waiting for the next 6%+ small correction. Then we’ll shift into 100% long UPRO (3x S&P 500 ETF).
There was nothing abnormal in the sectors today. Energy and tech closed flat just like the S&P 500. The finance sector fell a little because interest rates fell a little.