December 11, 2018

Stocks rose at the open after a report suggesting progress in negotiating some sort of de-escalation of the trade war. The Dow is currently up 37 pts and the SPX is up .45%. The best performing groups in early trading are semiconductors, biotechs and retailers. The European markets closed up about 1.6% and most of Asia was up overnight. The dollar is stronger yet again, but WTI crude oil is up around $51.60/barrel. Bonds are trading modestly higher again. For the first time in a while we’re seeing a little rally in junk bonds. In Treasuries, we’re seeing short and long yields continue to converge. That is, you’re not picking up much additional yield for investing in longer-dated notes. The 5-year and 10-year Treasury yields are sitting at 2.71% and 2.85%, respectively. So yield curve concerns are front and center.

Bloomberg News reports that a proposal has been submitted to China’s governing cabinet (called the State Council) which would reduce the tariff on imported US automobiles to 15% from the current 40%. It appears investors are taking this report seriously, whereas they ignored the same information offered by President Trump in a recent Tweet. The State Council has yet to rule on the proposal, but the move is seen as an attempt to begin de-escalating the trade war. Traders are well aware that credible evidence of productive trade negotiations could easily spark a short squeeze in the US stock market.

Famed investor Rich Bernstein says you can blame Washington for this stock market correction (CNBC). He takes stock of the current situation as follows: corporate earnings are still accelerating, investors aren’t overly bullish, and markets still offers ample liquidity. So the fundamentals really don’t argue for a bear market. In fact…the fundamentals don’t argue for the correction we’re seeing.” Washington policy has generated a lot of uncertainty—not just for investors but also for business executives trying to plan for 2019. “How do you possibly assess credit risks when somebody’s import prices might be up 25% or might be down 10% or 15%?”

Speaking of uncertainty among business leaders, NFIB’s Small Business Optimism Index fell back to 104.8 in November vs. 107.4 in the prior month. So the index is back down to levels last seen in March and April when the trade war was just emerging. To give you some context, NFIB registered a massive jump to multi-decade highs during the last part of 2016, suggesting business leaders were eager to hire, build, and grow. Since then, the index has chopped around between 103 and 108. But while the index suggests small business leaders are still very optimistic about the future, November’s drop will definitely grab the market’s attention. One of the key tenets of the Bear Market thesis is that the trade war will destroy business investment and therefore economic growth will fall back to 2%--or even less. Digging into the report, we see that most of November’s decline was driven by weaker future economic expectations. Measures of current economic strength remain very high. According to Bloomberg, the “decline does not indicated deteriorating strength in underlying activity—small companies are still planning to hire at a robust pace and plan to increase compensation. Rather, the drop in sentiment signals that owners view a less favorable political environment for their small businesses.”

Inflation continues to edge lower after a mid-year spike. Today, we learned that the Producer Price Index (PPI) decelerated in November to 2.5% year-over-year growth, from 2.9% in the prior month. The primary driver was lower oil and fuel prices. Excluding energy & food, however, wholesale inflation actually accelerated to 2.7% growth. The Federal Reserve is likely to pay more attention to this last figure during their policy meeting next week.

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