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Remember when all investors had to worry about were sky high stock valuations and complacency? Those we’re the good old days of last month. Now, it seems that almost everywhere you look there are signs that equities are on shaky ground.
Take the Dow Jones Transportation Average. Loaded with railroads and airlines — and sometimes called the market’s early warning system — the benchmark largely outperformed the Dow Jones Industrial Average in the months after Donald Trump’s election victory. That was generally seen as a good omen. Since peaking on March 1, though, the transports have underperformed, dropping 6.48 percent, versus a 2.48 percent decline for the industrials. Then there’s the S&P 500 High Beta Index, which tends to tends to lose momentum faster than the broader market at the tail end of an uptrend. That gauge has reached a wall of resistance, failing to break above its 50-day moving average. Without a breakout, it’s unlikely that stocks at large will gather much momentum, according to Bloomberg Intelligence’s Gina Martin Adams.
With geopolitical risks seemingly on the rise around the world and measures of volatility creeping higher, it’s no wonder stock investors are being cautious. Former U.S. Treasury Secretary Lawrence Summers said that while it’s difficult to call a market top, valuations have gotten ahead of the economy. “I’m not sure that I see what in the economy would justify a market move of the magnitude we’ve seen in the last months,” Summers said in an interview Wednesday on Bloomberg Television. “It wouldn’t surprise me if people look back and see that there was a bit of a sugar high in some of the valuations that we’re seeing.”
IF IT COULD HAPPEN IN THE U.K. AND THE U.S., THEN …
Europe is a perfect example of what Summers describes. With less than two weeks to go before the first round of French presidential elections, investors are racing to protect gains that have pushed the region’s shares to their highest prices in more than a year. The cost of hedging against declines in the Euro Stoxx 50 Index has surged to its highest level since the U.K. referendum on European Union membership, rebounding from near a 15-month low in just a little more than a week, according to Bloomberg News’ Justina Lee. While the independent candidate Emmanuel Macron and the euroskeptic Marine Le Pen are still leading in surveys ahead of the April 23 vote, far-left candidate Jean-Luc Melenchon is gaining ground, stoking concern the presidential race will be close. After last year’s unexpected Brexit vote and Trump’s victory, investors are wary of being caught off guard again, “The polls have become less reliable, and that perception is weighing on market sentiment,” said Daniel Murray, the London-based head of research at EFG Asset Management, which oversees about $20 billion.
TRUMP TANKS THE DOLLAR
Want more uncertainty? Trump sent the currency market reeling today when he told the Wall Street Journal — again — that the dollar was too strong. The greenback immediately tanked against a basket of its major peers after trading little changed for much of the day. U.S. officials, especially the president, usually refrain from commenting on the value of the dollar. After all, foreign investors would hardly want to buy dollar-denominated assets such as Treasuries if they suspected the government actively wanted to depreciate its currency. And without foreign buyers, the U.S. would have a much harder time selling bonds to finance its $585 billion federal budget deficit, resulting in higher borrowing cost not only for the government, but also for businesses and consumers. Robert Rubin made the “strong dollar” national policy when he was Treasury secretary under President Bill Clinton in the 1990s. Less than a week after Trump told the Wall Street Journal in January that the dollar was too strong, current Treasury secretary Steve Mnuchin said at his confirmation hearing that a strong currency is desirable. So, which is it?
JUST IN CASE
Bonds aren’t immune from the rise in volatility sweeping global markets. Rather than ponder the sustainability of the reflation trade and its implication for yields, some of the world’s biggest bond managers such as Rick Rieder at BlackRock and Bob Michele at J.P. Morgan Asset Management say they’ve been betting that price swings will only grow more dramatic, according to Bloomberg News’ Brian Chappatta. That’s already borne fruit this week, with the CBOE/CBOT index of 10-year Treasury note volatility, known by its ticker TYVIX, jumping to the highest closing level since February. Wider price swings throw a wrench into wagers that volatility would remain subdued. In both bond and stock markets, fund managers had been shorting volatility to generate additional yield, such as by selling out-of-the-money put and call options.
GRIDLOCK CAN’T BE THIS GOOD
There’s a saying that gridlock is good for markets, but is there too much of a good thing? Deutsche Bank Chief International Economist Torsten Slok highlighted the Philadelphia Fed’s Partisan Conflict Index in a note to clients today, pointing out how it’s currently at extreme levels. Slok relays that to the Philadelphia Fed, greater partisan conflict increases government deficits and significantly discourages investment, output, and employment. What puzzles Slok is that these bearish conclusions are inconsistent with the significant improvements seen recently in such sentiment data as consumer and business confidence. After being unable to repeal and replace Obamacare, more investors are saying that the Trump administration may now not be able cut taxes until 2018.
Earnings season kicks off tomorrow as banks begin reporting first-quarter results. Net income at the nation’s six biggest banks — JPMorgan Chase, Citigroup, Bank of America, Wells Fargo, Goldman Sachs and Morgan Stanley — will probably climb 15 percent to $21.3 billion, helped by improvement in net interest margins, according to estimates compiled by Bloomberg. Analysts will listen carefully to what lenders have to say about the slowdown in commercial loan growth as well as the state of consumer lending amid worries over high levels of student and auto loan. After surging in the immediate aftermath of Trump’s election victory, bank stocks have underperformed recently. The Bloomberg Banks Index has fallen 3.73 percent from its peak this year on March 16, compared with a drop of 1.14 percent for the MSCI All-Country World Index.
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