In a relationship

1.  U good bro’?  Yesterday’s apparent overture was applauded by Wall Street with a rally in equities, but is it too late?  We all expect negotiations to take several turns before hopefully arriving at a settlement.  However it is possible that some irreversible effects have already occurred?  Despite the fact that we are all focused on how the equity markets react, a rally in stock indexes doesn’t necessarily reflect the underlying long term health of corporations.  Since the trade war began, US companies have been scrambling to avoid cost hikes caused by tariffs.  In some cases moving production out of China and in other cases loading up on inventory ahead of a tariff increase.  So let’s think about that for a second.  Large companies have very complex logistical pipelines and picking up and moving production from China to, let’s assume, Vietnam is a complex and costly task.  Not only do companies have to find manufacturing facilities, but they also have to get materials and components into a different country, never mind shipping the finished goods out.  In order not to disrupt their supply chains, companies will have to move slowly and overlap production.  It all sums up to more cost to US companies.  I should also mention the many smaller companies that do not have the same connections and resources that may not even be able to find sourcing alternatives, despite their desire to do so.  Their only alternative is to accept the tariffs and hope for the best as they hike prices to cover the increased cost of goods.  Yesterday morning, Best Buy announced its earnings and beat by one earnings measure but missed its revenue target.  They also lowered forward guidance for the year, which naturally upset investors.  In their commentary, the company, who sells goods that are principally manufactured in China (think shiny tech toys) are expecting to be hammered by the ongoing stream of tariffs.  As a retailer, Best Buy’s only tool to mitigate some of the increased costs is to load up on inventory ahead of the new hikes; a costly and risky maneuver.  They further risk supply chain disruptions as their wholesalers struggle to fulfill orders.  Finally, Best Buy mentioned the consumer… my favorite topic.  They said that it is difficult to predict consumer behavior going forward.  The reasons: volatility in the financial markets and potentially reduced demand resulting from price increases.  Best Buy’s stock was down -7.99% in yesterday’s session.

2.  Let’s watch this play out.  It seems like there is some sort of a cycle of good and bad news related to US Chinese trade negotiations.  We get bad news, the market tumbles, and low and behold, some good news followed by a rally.  If you look at the S&P500 chart it looks like a saw tooth pattern, switching directions every 5 days or so.  This last cycle started with China’s surprise retaliatory tariff last Friday – down – and the President’s tariff tantrum – down.  On Monday, the President made a questionably fact-based comment that China wants to talk – up.  Silence followed, but in this environment no news is good news – up.  The bond market calls balderdash and rings the alarm bell – down.  Mnuchin makes a sketchy statement that things are OK, really – up.  Chinese Ministry of Commerce says that the two sides are in “effective communication” and that it wouldn’t immediately retaliate to the latest round of tariffs – up.  Now if you parse those rally-causing statements we learn that the two sides are talking and that China is not going to retaliate on Monday after the new tariffs take effect over the weekend.  The word “immediately” doesn’t mean never, just not right now.  What is the point in all of this?  The ups and downs can make one seasick if you watch the market too closely.  It is probably better to focus on the big picture, or the trend.  Things may be looking up today, but unfortunately, the trend is still sideways with no end in sight.

Stocks rallied yesterday on new hope for a trade resolution between the US China.  China said it wouldn’t immediately fight back, wishing instead to try to get the US to avoid future tariff hikes.  The good news sent stocks up with the S&P500 trading up by +1.27%, the Dow Jones Industrial Average climbing by +1.25%, the Russell 2000 advancing by +1.63%, and the NASDAQ Composite Index ascending by +1.48%.  Bonds pulled back and 10-year treasury yields climbed by +2 basis points to 1.49%.  The yield curve between 2-year and 10-year notes is still inverted at -2.9 basis points.

– This morning, the Bureau of Economic Analysis will release its PCE figures.  Personal Income is expected to have grown by +0.3% compared to last month’s +0.4%, while Personal Spending is forecast to have risen by +0.5% up from last month’s +0.3%.

– PCE Core Deflator is expected to come in at 1.6% year over year, same as last month.  This is the Fed’s favored inflation gauge.

– University of Michigan Sentiment is expected to come in at 92.3 compare to 92.1 from last month.

– Next week will be a short week but we will get the Fed Beige Book, ISM Manufacturing PMI, Markit PMI’s, Factory Orders, Durable Goods Orders, and the monthly employment numbers.  Check back on Tuesday morning for details.