MANIC MARKET FLIPS ON TRADE HEADLINES

Stocks rallied after the Trump Administration delayed some of the new trade tariffs planned for next month. The Dow is currently up 363 pts, the SPX is up 1.3% and the Nasdaq is up almost 1.6%. Not surprisingly, the leading sectors today—consumer discretionary, industrials, tech—are viewed as having the most vulnerability to an escalating trade war. By contrast, the two sectors seen as the safest in an uncertain global trade environment—utilities and real estate—are in the red today. The VIX Index, a common gauge of fear among options traders, fell back to 17.9 from 21 yesterday. European stock markets rallied sharply on the trade tariff news as well. Asian markets, however, were down overnight on civil unrest in Hong Kong. The US dollar continues to strengthen as the Chinese yuan weakens. But better investor sentiment today is propping up commodities. WTI crude oil spiked 3% to $56.80/barrel for no good reason. Bonds are selling off after an enormous 2019 rally. The 10-year Treasury Note yield bounced back to 1.68% this morning. Since investors’ primary concerns at the moment are 1) trade war, and 2) falling interest rates, any day in which rate rise will generally evoke risk-on sentiment.

US Trade Representative (USTR) Robert Lighthizer announced a 3-month delay in new trade tariffs on certain items such as cellphones, toys, computer monitors and laptops, footwear, and clothing. The USTR office noted the tariff exclusion process is ongoing. Not surprisingly, affected stocks rallied on the announcement. Apple Inc. (AAPL) and Target (TGT), for example, spiked nearly 5% in early trading. CNBC’s Jim Cramer says this move is a signal that President Trump doesn’t want the stock market to fall further on trade fears.

The Consumer Price Index (CPI) accelerated in July, rising to 1.8% year-over-year growth from 1.6% in the prior month. Core CPI—which excludes food & energy—accelerated to 2.2% from 2.1%. Both reading were higher than economists expected. The bottom line is that retail price inflation is firming, not falling and this presents some problems for the Federal Reserve and for stock market bears. The Fed’s recent rate cut was partly the result of a slower inflation outlook. This report raises the question, did they react too quickly by adding stimulus when it is not needed? And what about the pervasive bear market narrative that says falling interest rates are predicting recession around the corner? As that narrative goes, the 10-year Treasury yield is falling because economic growth & inflation expectations are diving. But if inflation is firming around 2% and growth is stabilizing around 2%, the chances of economic recession are relatively low.

Goldman Sach’s David Kostin agrees, saying in a CNBC interview that the fundamentals of the economy are OK. Unemployment remains very low, we have positive real wage growth, and consumer confidence is reasonably elevated. The economy should be able to grow 2% with inflation at 2%, and corporate earnings should grow about 3% this year. So then the volatility we’re seeing right now is a reset in stock market valuation. Since the trade war is likely to drag on, investors are trying to figure out the appropriate P/E ratio for the market. Further, he says lower interest rates should support the stock market. With the 10-year Treasury yield at 1.7% and the earnings yield on the S&P at 5.7%, stocks looks much more attractive than bonds. The gap between those figures is very wide compared with historical norms. “You have to look at equities in that context.”


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