Bank On It

Bank on it.  Stocks rose slightly yesterday as the big banks surprised… in both directions. Continued mixed messages on the Phase One trade deal threw cold water on an early rally.

 

N O T E W O R T H Y

 

• Mind your budget.  Fed, Fed, Fed, that seems to be the only thing that markets care about these days.  Now I’m not saying the central bank of the largest global economy is not important.  After all the old adage: “don’t fight the Fed”, exists for good reason.  If you don’t believe me, simply look at the power that the body yielded in 2019 in which they single-handedly architected a reversal from an ugly selloff and turned it into a near record year for stocks.  All in the midst of an economic slowdown, a trade war, and a Presidential impeachment. You bet the Fed is an important factor in the market. Is there limit on what they can do?  The Fed can use many tools to control the pace of economic growth and the two most effective tools are interest rates and quantitative easing.  Quantitative easing in which the Fed buys securities in the open market, allows the Fed to inject liquidity, or Government cash into the market.  It also serves to prop up asset prices as there is always a big buyer on the fringe of the trading floor.  In order to do this the Fed must increase the size of its balance sheet as it has been quietly doing for the past several months, despite it already being large by historical standards.  Interest rate policy is more closely followed and we can see policy in action with their 2019 rate cuts which helped the stock market hit new all time highs.  So here we are: the Fed’s balance sheet is bloated, theoretically limiting their ability to purchase significantly more assets and interest rates are low theoretically limiting their ability to cut rates too much more (forget about negative interest rates for now).  Should the economy really slip into a recession the Fed would not be able to lower rates as much as in past recessions.  Fed Funds are currently at 1.5% and 150 basis points is not a lot of room considering that the Fed lowered rates by around 500 basis points on average in past recessions.  So now what?  FISCAL STIMULUS! You know, Government spending.  When a government operates normally and efficiently (yep) they enact legislation to strengthen economic growth. Hopes for a big infrastructure spending plan have been spoken about but not acted upon for at least the past four years.  Assuming that Congress actually decides to focus their energies on something positive like that, they too will have some limitations… unfortunately. The Treasury Department announced on Monday that the US Federal Budget Deficit was $1.02 trillion.  That’s really big and due largely to the 2017 tax cuts and increased spending policies under the current administration.  Deficits typically rise during economic downturns as a result of fiscal stimulus.  In this case it is already large and will be a limiting factor should the economy take a turn for the worse.
• Trade lightly.  The US and China are due to sign the Phase One trade deal today. Though details of the deal have yet to be revealed, many expect the highlights to include a minor cut in some existing tariffs on Chinese goods and China agreeing to increase its purchases of US goods by $200 billion over the next three years.  A significant amount of existing tariffs will still be in place and used to leverage against China should they pull back from their commitments. Those additional tariffs are expected to be discussed in future phases.  While this Phase One deal represents positive movement on the economically toxic trade war, there are still too many negative factors to ignore… should the market care to focus on them.  Yesterday we got a rare glimpse of the market tension that still may exist under the surface. Bloomberg reported that any tariff rollbacks would only happen after the elections in November and the market didn’t take it lightly, selling off from highs achieved early in the session.  Though indexes still closed in the black, they were well off the highs of the morning.  Today will be the day that, according to Stephen Mnuchin, details will finally be revealed to the world.  Hopefully, they will meet the expectations of the markets.

 

THE MARKETS

 

Stocks traded up early in yesterday’s session in response to solid bank earnings (two out of three isn’t too bad) but ultimately softened on a negative report about the Phase One trade deal. The S&P500 traded up by +0.15%, the Dow Jones Industrial Average inched up by +0.11%, the Russell 2000 advanced by +0.37%, and the NASDAQ Composite Index slipped by -0.24%.  Bonds rose moderately and 10-year treasury yields dropped by -3 basis points to 1.81%.

 

NXT UP

 

– Core Producer Price Index is expected to come in at 1.3% year over year down from last month’s 1.1% reading.

– Empire Manufacturing Index is expected to be 3.6 compared to December’s 3.5.

– The Fed Beige Book will be released at 2:00 PM EST.

– Philadelphia Fed President Patrick Harker, San Francisco Fed President Mary Daly, and Dallas Fed’s Robert Kaplan will all speak today.

– This morning United Health Group, BlackRock, and Bank America beat while US Bank Corp and PNC Financial missed earnings expectations.  We will hear from Goldman Sachs before the bell and Alcoa will announce post-close.

 

daily chartbook 2020-01-15