Is Iron Ore Weighing Down Stock Market?

By Tom McClellan

Iron ore prices versus SP500
April 20, 2017

Some U.S. stock market investors are getting worried about the price of iron ore in China.  This week’s chart helps to show why.

One analyst who noticed this relationship was Alastair Williamson of Stock Board Asset, who published this Tweet on April 18, 2017:

StockBoardAsset tweet

It is definitely an intriguing chart, and a relationship I had not explored before.  I have come across a large number of interesting intermarket relationships like this one, and it is always fun to find (or be shown) a new one.  But not all of them have merit.  So what I’d like to do is use this one to show you how I typically like to contemplate a new relationship that I encounter.

So my first question is about whether the relationship is a durable one.  The answer, it turns out in this case, is no.  The two have only recently fallen into this apparent correlation.  Here is a longer term look:

Continue reading Is Iron Ore Weighing Down Stock Market?

It Will Restart All Over Again in the Small Things

By Jeffry Snider of Alhambra

Six months ago back in October, IBM reported what seemed to be encouraging results. Though revenues at the company were down for the eighteenth consecutive quarter, they were so by the slimmest of margins, just -0.3%. For Big Blue, that had been the best revenue comparison since the first quarter of 2012 back when global recovery was the most plausible. The positive momentum was attributed to the company’s shift toward the new growth model, cloud, SAAS, and other next step technologies in lieu of IBM’s traditional hardware products.

Fortune reported at the time:

Some analysts expressed optimism that the company’s 44% gain in cloud revenue shows that IBM CEO Ginni Rometty’s plans to focus on higher-growth businesses are working. At Fortune’s Most Powerful Women Summit, Rometty emphasized IBM’s commitment to Watson and related technologies, saying that while “some companies are high-growth,” IBM is “high-value.”

One such analyst from Zacks Investment Research was more blunt:

This suggests that IBM is finally turning around its fortunes as new strategic business lines like cloud computing, big data and mobile security are growing in double digits.

By this point after going on so long, it is clear that a lot of interest in the company’s circumstances is pure morbid curiosity, the sort of macabre entertainment you might get from watching a train wreck in ultra-slow motion. But that isn’t the whole story, there is a bellwether in there still and it tracks pretty closely at least the direction of the global economy if not always its intensity (though I believe even by that parameter IBM’s results aren’t that far off).

The worst quarter in terms of revenue was Q3 2015 and the storm of “global turmoil” that in (statistical) hindsight was a surefire downturn both in the US and almost everywhere else. Throughout last year, IBM’s revenue like the economy as a whole improved, which is to say that it stopped getting worse. Like “reflation”, it was merely extrapolated that lower negative growth rates and even some positive ones meant the malaise was done and the world turned over (positive, for once). The “rate hikes” at the end of 2016 and toward the start of 2017 confirmed, for the mainstream, this had to be the case.

For IBM, at least, it hasn’t turned out that way. Rather than turning positive in Q4 2016 in the straight line extrapolation of improvement, the company reported declining revenue again and at a slightly faster rate. The quarterly figure of -1.4% wasn’t a huge decline by any means, but it was certainly the wrong direction against expectations. The latest quarterly results released yesterday only furthered the opposite case that much more. Revenues that were thought verging on breakout are now half a year with none to be found; actual revenue was just $18.2 billion in Q1 2017, down 2.8% year-over-year and the lowest for Big Blue in a good long time.

Many will be quick to dismiss these results yet again as just IBM being IBM; the standard for 21st century tech dinosaurs being left behind by the next new age. As with most things, there is truth to the indictment. But, again, the revenue history for this particularly company is uncomfortably close to matching the shifting trajectory of the global economy which by 2007 standards at least would have been wholly unsurprising. Their products are sold all over the world and as true capex are quite sensitive to macro changes whether idiosyncratic to whatever country, monetary conditions, or the global economy that follows the money.

If you think IBM means nothing more than its own success or failure, obviously none of this will matter. On the other hand, if there remains even the slightest relationship to the marginal macro environment, the past six months have to be concerning in a way that doesn’t bode well for “reflation” and everything thereafter. We already know (too) well that nothing has really changed, but so far outside of the auto sector while there isn’t exactly growth taking place there isn’t further contraction, either. Unless something somewhere actually does change in a meaningful way (not very likely) we are just patiently waiting for the next downward “cycle.” And it will start small so that it can be characterized afterward as “unexpected.”

America’s Gilded Age 2: On the Rocks

By Danielle DiMartino Booth

America's Gilded Age 2, Danielle DiMartino Booth, Money Strong, Fed Up

Some movies beg to be one and done

No sequel. No Part II. No Redux. 1981’s smash hit Arthur is a classic example of what happens when well is not left alone. There was never going to be a way to replicate the hilarity born of sublime scripting and delivery to say nothing of the perfectly unconventional combination of casting and direction. Upon reflection, the only question is what sort of prig it takes to award the movie anything but five full stars – Amazon has it as 4.5 stars. (We’ll leave that one for another day, but you know who you are and you clearly need to get out more.)

Who, after all, could fault Dudley Moore’s best moments portraying Arthur Bach, cinema’s most darling drunk? A smattering of the film’s snippets:

When Susan, his fiancé by way of an arranged-marriage, suggested that, “A real woman could stop you from drinking,” Arthur rebutted that, “It’d have to be a real BIG woman.”

Or his description of his day job: “I race cars, play tennis and fondle women. BUT! I have weekends off and I am my own boss.”

Then, of course, there’s the farcical exchange between Arthur and his proper aunt and uncle when he’s caught out with a spandex-clad prostitute. Endeavoring to render his “date” passable, he claims she’s a princess from a speck of a country: “It’s terribly small, a tiny little country. Rhode Island could beat the crap out of it in a war. THAT’s how small it is.”

One beat later when it (re)dawns on him that his arm candy is actually said prostitute? Well, that’s the best of the best: “You’re a hooker? Jesus, I forgot! I just thought I was doing GREAT with you!”

Continue reading America’s Gilded Age 2: On the Rocks

Don’t Get Hung Up on Bull/Bear Labels

By Steve Saville

In the real worlds of trading and investing it’s best not to get hung up on bull and bear labels

Gold is probably immersed in a multi-decade bull market containing cyclical bull and bear markets. We can be sure that a cyclical bear market began in 2011, but did this bear market come to an end in December of 2015? In other words, did a new cyclical gold bull get underway in December-2015? I don’t know, but the point I want to make today is that the answer to this question is not as important as most gold-market enthusiasts think.

During the first half of 2016 my view was that although a new cyclical gold bull market had probably begun, it was far from a certainty. The main reason I had some doubt was that gold’s true fundamentals* were not decisively bullish. However, by November of last year I thought it likely that a new gold bull market had NOT begun in December-2015. This was mainly because the true fundamentals had collectively become almost as gold-bearish as they ever get. It was also because it had, by then, become crystal-clear that the US equity bull market did not end in 2015.

The cyclical trend in the US stock market is important for gold. During any given year the gold price and the US stock market (as represented by the S&P500 Index) are just as likely to move in the same direction as move in opposite directions, but over long periods they are effectively at opposite ends of a seesaw. As far as I can tell, it would be unprecedented for a cyclical gold bull market to begin when a cyclical advance in the US stock market is far from complete.

In any case, for practical speculation purposes there is never a need to answer the question: bull market or bear market? In fact, there is never a need to even ask the question. The question that should always be asked is: based on all the relevant evidence at the current time, should I buy, sell or do nothing?

For example, based on the extreme negativity that prevailed at the time, the length and magnitude of the preceding price decline and a number of other considerations, it could be determined in January-2016 that an excellent opportunity to buy gold-mining stocks had arrived. Coming to this conclusion did not require having an opinion on whether a new gold bull market was getting underway. For another example, during May-August of last year an objective assessment of the price action and the important sentiment indicators revealed numerous excellent opportunities to reduce exposure to the gold-mining sector, regardless of whether or not a new bull market had begun several months earlier. For a third example, the analysis of the salient evidence in real time during December of last year suggested that another sector-wide buying opportunity had arrived in the world of gold mining. Again, taking advantage of this buying opportunity did not require an opinion on whether a cyclical gold bull market had begun back in December-2015.

The upshot is that assertions to the effect that an investment is in a bull market or a bear market can make for colourful commentary, but in the real worlds of trading and investing it’s best not to get hung up on bull and bear labels. As well as being unnecessary, fixating on such labels can be problematic. This is because someone who is convinced that a bull market is in progress will be inclined to ignore good selling opportunities and someone who is convinced that a bear market is underway will be inclined to ignore good buying opportunities.

*In no particular order, the fundamental drivers of the US$ gold price are the real US interest rate (as indicated by the 10-year TIPS yield), US credit spreads, the relative strength of the US banking sector (as indicated by the BKX/SPX ratio), the US yield curve, the general trend in commodity prices and the US dollar’s performance on the FX market (as indicated by the Dollar Index).

Goldman: About That “Top” Long Dollar Trade – Fuck it

By Heisenberg

Those who, like me, are in the maddening habit of tracking markets on a minute-by-minute basis have already seen the Goldman dollar call.

Specifically, the “smartest” guys on the Street have seen enough. They’re throwing in the towel.

Dollars

I’d really like to regale you with the long history of this reco, but somehow I doubt you care despite the fact that the story has significant comedic value.

The reason this is notable to general audiences is that it of course comes on the heels of an abysmal quarter for what, going into 2017, was the consensus trade.

One person who hasn’t helped the previously “crowded” long USD thesis is Donald Trump who, like Turkish President-turned-Sultan Recep Tayyip Erdoğan, has a penchant for playing FX/rates strategist. Witness last week’s “bombshell” WSJ interview in which, for the second time this year, Trump jawboned the greenback lower via the Journal.

No matter what Steve Mnuchin says, it’s Trump’s bombast that matters and ironically, it’s his failure to execute on his agenda that’s helped deflate the reflation narrative.

So it’s hard to blame Goldman for giving up. Below, find excerpts from the note out this morning.

Via Goldman

Today we are closing our two long-Dollar ‘Top Trade’ recommendations, initiated on November 17 of last year: long USD versus EUR and GBP, and long USD/CNY via the 12-month non-deliverable forward (NDF). The EUR and GBP trade would have resulted in a potential total return of -0.2%, as modest carry gains partially offset a spot return of -0.6%. The USD/CNY trade would have resulted in a potential loss of 1.1%, after coming close to our target just before year-end.

We see three main reasons why these trades have not performed year-to-date, each of which looks likely to remain a Dollar headwind for the time being. First, global growth has picked up, reducing the degree of US outperformance. Exhibit 1 shows changes in rolling one-year-ahead GDP growth forecasts for the G10 economies since November 7, 2016, just before the US presidential election. Although forecasters have marked up their US growth expectations over this period, the changes have been more modest than for other economies, including the UK and Euro area. Admittedly, this may partly reflect weakness in tracking estimates of Q1 GDP growth in the US—the ‘soft’ or survey-based data there offer a much more upbeat take on current growth momentum. But, so far at least, uncertainty about the true pace of activity, as well as the slow start on tax reform and infrastructure spending, appear to have kept optimism about the US outlook in check. Meanwhile, China has expanded fiscal and credit policy, lifted domestic interest rates, and closed the capital account—all of which affected our USD/CNY call.

GrowthGSUSD

Second, the new administration has expressed concern about further Dollar appreciation. For instance, in a recent interview with the Wall Street Journal, President Trump said: “I think our dollar is getting too strong, and partially that’s my fault because people have confidence in me. But that’s hurting—that will hurt ultimately.” This echoes his comments during the campaign, as well as press reporting on the Dollar views of some of his economic advisers (although Treasury Secretary Mnuchin said yesterday that a strong Dollar could be beneficial over the long run). The Administration’s currency views could affect the Dollar through a variety of channels, including its appointments to the Federal Reserve Board and through aspects of trade and fiscal policy. For example, concerns about additional Dollar appreciation may have been a partial factor behind the administration’s lukewarm reaction to the proposed border-adjusted corporate income tax. Currency appreciation has also come up in the context of trade negotiations, with Commerce Secretary Ross saying last month: “We need to think of a mechanism to make the dollar-peso exchange rate more stable.

Third, although we ultimately expect the FOMC to deliver more rate increases than discounted by markets, Fed officials have been in no particular hurry to speed things up. Our US Economics team expects rate increases at the June and September meetings, followed by an announcement on balance sheet normalization in Q4. Starting balance sheet normalization does not mean ending funds rate increases: the median FOMC participant expected three more hikes in 2017 at the time of the March meeting—the same meeting where officials coalesced around a plan to end full reinvestment “later this year”. However, after 2013’s ‘taper tantrum’, policymakers will likely want to move carefully around the start of balance sheet normalization, and will probably take at least a brief pause from funds rate hikes when that process gets underway. As a result, the Dollar has not benefited as much as we might have thought from hawkish communication about the funds rate in recent months. After the surprising decline in the Core CPI in March and in light of the discussion in policy circles about “opportunistic reflation”, the tone from Fed officials looks unlikely to change soon—and the medium-term outlook for policy is increasingly clouded by the Fed Chair transition next year.

In recent years we have generally maintained a bullish Dollar view, and the greenback still has a number of things going for it, including a healthy domestic economy, an active central bank, and lower political uncertainty compared with the UK and Euro area. In the near term the Dollar could gain if the Trump Administration makes progress on fiscal stimulus or if the Front National wins the upcoming presidential election in France. However, a number of fundamentals have changed on the margin, such that the long-Dollar story no longer warrants a place among our ‘Top Trades’. In addition to closing these two recommendations, we are putting the remainder of our foreign exchange forecasts under review.

Now You Tell Us

By Jeffrey Snider of Alhambra

As we move further into 2017, economic statistics will be subject to their annual benchmark revisions. High frequency data such as any accounts published on or about a single month is estimated using incomplete data. It’s just the nature of the process. Over time, more comprehensive survey results as well as upgrades to statistical processes make it necessary for these kinds of revisions.

There is, obviously, great value in having even incomplete data estimates published in as close to real time as can be possible right now. Most of the time there aren’t major revisions to a data set because by and large growth is to some degree predictable. That is the essence of trend-cycle subjectivity, as government statisticians in the past had been able to more easily determine the trajectory for whatever economic data and use it to further construct the trend-line for measured monthly variation.

The problem, equally obvious, is for any period where the assumed trend becomes obsolete. In the past, that had typically meant recession, for any statistical series always has difficulty with inflection due to the basic premise of using the recent past to try to measure the near future. Such a short-term discrepancy was something we could all live with, because if whatever piece of information didn’t exactly tell us when the inflection was reached we would anyway soon enough be able to easily infer it by common sense at least.

This “recovery” period was at first modeled by trend-cycle analysis as a recovery. That was evident across a range of statistics but to the most visible extreme with Industrial Production. The Fed’s subjective assumptions about the state of US industry produced self-reinforcing guidance about that agency’s forward assumptions of the state of the economy (IP was growing steadily, therefore QE must be working). The data issue, then, is revealed where recovery, at least one consistent with past recoveries, doesn’t occur. If that was to be the case, then even the most robust statistics like IP with its almost 100 years of data would encounter serious and significant problems accurately depicting what was really going on – meaning that the data series reflected more subjectivity than actual results.

The first half of 2015 displayed just these kinds of confusing signals. On the plus side, there was the unemployment rate that was rapidly falling. Under more normal conditions, such an outcome would never be challenged as anything but positive and comforting. In this era, however, the participation problem immediately questioned its veracity by the state of the ratio’s own denominator.

On the other side were financial markets (bonds/eurodollar futures) and prices (oil, especially) increasingly pessimistic just as the unemployment rate entered its steeper decline. That left all the other major economic accounts to try to settle the ledger one way or the other. Clearly, in the first few months of 2015 the US and global economy decelerated with the oil crash, leaving questions more about the implications of that condition. The view from the unemployment rate as well as other key BLS statistics was that it was a “transitory” aberration soon to be fixed.

In terms of industrial production, an important statistic not just because of its history but more so due to where weakness at that moment was manifesting in industry, particularly manufacturing, the seasonally-adjusted trend had picked up on that weakness dating back to the middle of the year before. But in the spring of 2015 IP had seemed to shake off those growing doldrums so that the idea of “transitory” seemed plausible – and all the excuses employed then to try to dismiss the possible downturn as some benign quirk.

From July 2015 and an article published by USA Today reporting the first estimate for June 2015 IP:

With rough start to 2015 in the rear view mirror, Wednesday’s uptick comes after months of malaise in the American industrial sector. Several major winter storms hit the Northeast, and falling oil prices in late 2014 led oil and gas producers to cut back on industrial supplies. A disparity between the dollar and foreign currencies like the euro made U.S. exports more expensive, presenting a challenge for multinational companies.
Despite challenges, the index is now 1.5% above its year-ago level.

That was one of the chief comforts provided by IP as well as others; though it was slowing it remained positive in terms of annual growth, meaning that (like early 2007) economists could continue to dismiss it so as to focus on the more pleasing labor stats.

After several benchmark revisions, however, including the latest set released today, IP for June 2015 now shows instead a 1.4% decline year-over-year. In fact, the new data set figures that the contraction in US industrial production began far earlier than first thought and was significantly deeper at its trough.

Continue reading Now You Tell Us

Gold-Silver Divergence

By Keith Weiner of Monetary Metals

This was a holiday-shorted week, due to Good Friday, and we are posting this Monday evening due to today being a holiday in much of the world.

Gold and silver went up the dollar went down, +$33 and +$0.53 -64mg gold and -.05g silver. The prices of the metals in dollar terms are readily available, and the price of the dollar in terms of honest money can be easily calculated. The point of this Report is to look into the market to understand the fundamentals of supply and demand. This can’t necessarily tell you what the price will do tomorrow. However, it tells you where the price should be, if physical metal were to clear based on supply and demand.

Of course, two factors make this very interesting. One is that the speculators use leverage, and they can move the price around. At least for a while. The other is that the fundamentals change. There is no guarantee that the prices of the metals will reach the fundamental price of a given day. Think of the fundamentals as gravity, not the strongest force in the system but inexorable, tugging every day.

This week, the fundamentals of both metals moved, though not together. We will take a look at that below, but first, the price and ratio charts.

The Prices of Gold and Silver
gold and silver prices

Next, this is a graph of the gold price measured in silver, otherwise known as the gold to silver ratio. It didn’t move much this week.

The Ratio of the Gold Price to the Silver Price
gold-silver ratio

For each metal, we will look at a graph of the basis and cobasis overlaid with the price of the dollar in terms of the respective metal. It will make it easier to provide brief commentary. The dollar will be represented in green, the basis in blue and cobasis in red.

Here is the gold graph.

The Gold Basis and Cobasis and the Dollar Price
gold and the us dollar

The scarcity (i.e. the cobasis, the red line) is in a gentle rising trend for about six months. This week, the cobasis was down slightly. Not a surprise given the (relatively) big price move of +$33. Nor does it appear to break the trend.

Our calculated fundamental price of gold is at $1,301, just above the market price.

Now let’s look at silver.

The Silver Basis and Cobasis and the Dollar Price
silver and the us dollar

In silver, it’s much harder to say that there is an uptrend in the cobasis. Our indicator of scarcity is at the same level it was in October. Back then, the price of silver was $17.60 and on Thursday it was just about 90 cents higher.

The fundamental price back then was just under $15. Now it’s just under $16.50. This happens to be down about 40 cents this week.

With the fundamental of gold rising, and that of silver falling, it’s not surprising that the fundamental gold-silver ratio is up to a bit over 79.

Visual Proof That Central Banks Killed Active Management

By Heisenberg

I’ve got a love-hate relationship with low-cost, passive investing.

On the one hand, it’s kind of hard to argue with something that’s low-cost and that simultaneously outperforms alternative strategies that cost more. That’s a no-brainer.

But the problem in the post-crisis world is that investors have forgotten why it is that low-cost vehicles that replicate various benchmarks work so well. These strategies’ outperformance relative to active management is attributable to the fact that central bank largesse has been the rising tide that’s lifted all benchmarked boats.

And that’s fine (I mean, it’s not fine that it creates gross misallocations of capital, etc., but it’s fine from a the perspective of anyone who’s ridden the wave since 2009), right up until passive investors forget to what they owe their outperformance. That’s when the epochal shift to passive becomes dangerous. Suddenly, hordes of retail investors start to believe they stumbled upon some magic formula eight years ago and then they kind of rewrite history to make themselves believe that they did something other than simply ride the central bank liquidity wave.

I’ve gone to great lengths to try and disabuse retail of that notion, and not because I want to make people feel stupid. But rather because I want investors to understand that if central banks pull back and markets are allowed to trade in a two-way manner again, suddenly everyone is going to realize they weren’t the gurus they thought they were.

Well on Monday, Goldman is out with a new piece called “An Rx for Active Management.”  There’s a lot to go through in the note, but I wanted to quickly point out two charts that pretty clearly show why it is that active management suddenly stopped finding alpha.

Via Goldman

The current run of active manager underperformance began shortly after the onset of QE.

QE drove real interest rates lower (measured by the yield on 10yr TIPS). This trend towards 0%, and even negative, real rates coincided with the shift from active outperformance to underperformance (see bottom-left exhibit).

QEProof

“Risk Off” Making Some Headway

By Doug Noland

Credit Bubble Bulletin: “Risk Off” Making Some Headway

Global “Risk Off” has been Making Some Headway. This week saw ten-year Treasury yields drop 15 bps to 2.23%, the low since the week following the election. German bund yields declined another four bps to a 2017 low 19 bps. The Crowded Trade hedging against higher rates is blowing apart. The Crowded yen short has similarly been blown to pieces, with the Japanese currency surging an additional 2.3% this week (increasing 2017 gains to an impressive 7.7%). Japan’s Nikkei equities index dropped 1.8% this week, with y-t-d losses rising to 4.1%.

Meanwhile, this week Gold surged 2.5%, Silver jumped 2.9% and Platinum gained 1.9%. In contrast to the safe haven precious metals, Copper dropped 2.8%, Aluminum fell 2.7% and nickel sank 4.2%.

European periphery spreads (to bunds) widened meaningfully. Italian spreads widened 14 to 213 bps, the widest since early-2014. Spanish spreads widened 13 to an eight-month high 152 bps. Portuguese spreads widened six bps and French spreads seven. Italy’s stocks fell 2.6%, with Italian banks down 5.9%. Spanish stocks lost 1.9%. European bank stocks dropped 2.6% this week.

A little air began to leak from the EM Bubble. Russian stocks were hammered 5.9% to an eight-month low, increasing 2017 losses to 14.2%. Brazilian stocks lost 2.5%. Chinese equities suffered moderate declines, while appearing increasingly vulnerable. For the most part, however, EM held its own. The weak dollar helped. EM equites (EEM) declined only 0.6% for the week, while EM bonds (EMB) gained 0.4%.

U.S. equities trade unimpressively. The VIX rose slightly above 16 Thursday to the highest level since the election. The banks (BKX) sank 3.2%, increasing 2017 losses to 4.1%. The broker/dealers also lost 3.2% (down 0.7% y-t-d). The Transports were hit 2.5% (down 1.9%). The broader market continues to struggle. The mid-caps dropped 1.5% (up 1.2%), and the small caps fell 1.4% (down 0.9%). Even the beloved tech sector has started to roll over. At the same time, high-yield and investment grade debt for the most part cling to “Risk On.”

A number of articles this week pronounced the death of the “reflation trade.” It’s worth noting that the GSCI Commodities index gained 2.2% this week, trading to a six-week high and back to positive y-t-d. Rising geopolitical tensions helped Crude rise to almost $54, before closing the week at $53.18. President Trump talked down the U.S. dollar, and I’ll add “careful what you wish for.” The dollar index declined 0.6% this week. Is it a coincidence that the President calls the dollar “too strong” only a few days after meeting with Chinese President Xi Jinping? China is no currency manipulator, not if it can rein in a psycho North Korean despot.

Continue reading “Risk Off” Making Some Headway