Unemployment claims and New Home Sales

Weekly Unemployment Claims

The weekly unemployment claims numbers came in at 870K, which was worse than market expectations of 845K, and a slight uptick from last weeks 860K number.

To put this in context, the weekly average was around 240K pre-COVID.

Continuing Claims

Continuing claims fell to 12.58 million. While some data points have shown a V shaped recovery, the employment numbers will likely take years to get back to pre-COVID levels unfortunately.

New Home Sales

The bright spot of the morning was New Home Sales for the month of August, which made a new cycle high at 1.011 million. You have to go back to January 2007 to find a monthly reading that high. A bi-product of lower rates.

The results came in +12.2% above the prior month, and +41.8% year over year.

New home sales have typically been a reliable leading indicator. However, I’m not sure how reliable it can be in this environment.

The latest GDP now updates forecast a 32% increase in Q3 GDP. Which would be a record high record, following a record low in Q2. I don’t think this should be expected to continue. I expect Q4 and beyond to revert back to the sluggish growth economy that has been exhibited throughout most of the last 10+ years.

As we discussed before, the stock market isn’t necessarily the economy for a variety of reasons. Stocks are a result of earnings and interest rates. Rates are at historic lows, which sets the bar really low for stocks.

For example, earnings growth for the S&P 500 is expected to decline 20%. Still, earnings per share for all S&P 500 companies combined looks to come in around $130.50. That equates to an earnings yield (dividing EPS by the price of the S&P 500 index) of 4%. Which still looks pretty good when the 10 year treasury bond is 0.67%.

Stock selloffs (even severe selloffs like March) can occur under even the best macro fundamental backdrops. But its hard to envision a nasty bear market that lasts many years (like 2008 or 2000) occurring unless inflation becomes a problem, which restricts the Fed and prompts them to have to change their current monetary stance of 0% Fed Funds rate through 2023.

Doesn’t mean it can’t happen. But I see it as a low probability event at the moment.

Tesla and Market Update

TESLA (TSLA)

I thought last nights Tesla shareholder and “battery day” event was impressive overall. But it lacked clarity, and the longer time horizon apparently didn’t live up to the hype for a stock already up 400%+ year to date. Investors aren’t patient.

The stock is down 10% today and looks poised to retest the 50 day moving average. The lower high makes me believe it won’t hold this time. The stock is likely to drop to the $270 level next.

Given its lofty valuation (even for speculative future results), I wouldn’t add to my position unless it got back to the vicinity of the March highs around $194. Long term I do like the companies opportunities as now not only an auto tech company, but a battery & auto tech company. I’ll always hold a position as long as Musk remains in charge. I think it’s important to support these ambitious entrepreneurs – from a business standpoint – despite their perceived shortcomings in other matters.

NASDAQ 100 ETF (QQQ)

A lot rides on the direction of the broader market. After the breakout to new highs, stocks have lost steam in the last few weeks. The Nasdaq 100 (QQQ) has now spent a few days below the 50 day moving average.

Based on seasonality (which we’ll discuss next) and historical patterns (also discussed next), I would not be surprised to see a drop to at least $251.15, and probably closer to $237.47 (still another 10% below current prices) before the market builds a base for its next rally.

In terms of seasonality -during election years – late September through late October has shown weakness for whatever reason. If this seasonality plays out, we could be in for a few more weeks of selling. This is not unusual and its not the end of the world. Markets were up between 60% and 80% off their March lows. And markets don’t move in a straight line.

S+P 500 (2011)

In historical context, its quite ordinary to see a pullback to the 200 day moving average after a breakout to new cycle highs. In 2011 (after the 2010 flash crash), the market found support after a steep decline, rallied back to a new cycle high, then retraced back to the 200 day before beginning the next leg higher.

S&P 500 (2015)

2015 was no different. The S&P 500 broke out to new highs, consolidated, then fell towards the 200 day average before the rally could resume.

S&P 500 (2018)

Same with 2018.

S&P 500 (2020)

Fast forward to today and we have a similar setup. The S&P and Nasdaq broke above its pre-COVID highs and now the pullback commences.

As I type this, the S&P 500 has fell back to Monday’s low at 3234 support level. I don’t see much support below after this until we hit that 200 day moving average. And then the next real support zone comes in the 2940-3020 zone.

My guess is as good as anyone’s in regards to how this will all play out. I suspect the S&P 500 will eventually drop to that lower support zone before all is said and done.

Market sell-offs are never fun but they are normal. It will eventually setup the next leg higher. For those fully invested in an investment strategy that fits your time line and risk tolerance, stay the course. For those who have extra cash on the sidelines, get you shopping list ready and take advantage of the “discounts”.

(Disclosure: I own Tesla (TSLA))

Household Net Worth

The Household Net worth results came in yesterday at a record $118.96 trillion, mainly due to increases in home prices and the bounce back in stocks.

Unfortunately this doesn’t address the growing wealth gap. Wage growth hasn’t come close to keeping up with the growth rates of these assets. So those unable to own stocks or real estate have been left behind. I haven’t done much research on this topic, but it would be interesting to see how much – let’s say the top 10% wealthiest individuals – make up of this $118 trillion total.

The growing national debt is an increasing concern, and rightfully so. But compared against the backdrop of this household net worth statistic, and other US assets, helps to put things in context. I prefer to look at it as a “glass half full” situation. Though I know many would disagree.

As the world’s reserve currency, its not unusual for outstanding debt levels to increase as the economy grows. The problem here is that entitlement spending – the type that yields no return on investment – is growing at an unsustainable pace. There are solutions to the problem, but I suspect nothing will get done until it morphs into a crisis.

There has been much talk about the US dollars demise. Yet every time there is a crisis, the demand for safe dollar denominated assets is so great, the Federal Reserve has to respond with stimulus measures. The yield on the 10 year US treasury bond is 0.66%, which is a historic low. Yields decline when bond prices go up. And prices go up when buyers are more aggressive then sellers (despite what you hear, there are never more buyers than sellers -or vice versa). Yes, the Fed is also a buyer, but there is still strong demand apart from the Fed.

This doesn’t mean the safe haven status will remain forever. “On a long enough time line, the survival rate for everyone drops to zero.” Think about it, where else can you go at the moment? Euro?… no. Yen?… not a chance. Bitcoin?…no way. Despite the rhetoric, I see little to no evidence for the Dollars demise.

There is a lot of emotion behind this topic. Remember, emotions and investing are a terrible mix.

Earnings Update

Forwards earnings estimates for all S&P 500 companies combined have increased 11 of the last 12 weeks. Bottoming out the week of June 26th at $127.98, and increasing about 14.5% to $146.43 as of 9-18.

If we look at EPS growth rates for 2020 & 2021, we can also see estimates beginning to firm up for the first time in awhile. As of Friday, 2020 looks like an earnings decline of 19%, while 2021’s earnings growth rate is around 28%, and 14% for 2022.

Clearly the market has priced at least some of this in already. The forward PE was 18.9 to start the year, and stands at 22.7 as of Friday.

So with a 20% earnings decline and a 2% dividend rate, the change in valuation so far is +20%. And this follows 2019’s stock gains, which came almost entirely from an increase in valuation as well.

Clearly the market has priced in good news, and therefore these corrections (like the one we are in now) shouldn’t come as a surprise.

The S&P 500 hit the break even on year mark this morning (3230.78), which is still about 4.5% above its 200 day.

In my post on Friday, I mentioned how it felt the market was looking to drop into the vicinity of its 200 day moving average. The forward earnings yield on the S&P 500 now stands at 4.41%, when compared against treasury yield of 0.69% (Equity risk premium chart above) and even the investment grade bond index, stocks still look reasonably attractive. Especially against the backdrop of 0% short term rates indefinitely.

Market corrections can and do occur for a variety of reasons. The short term reactions could be controlled by COVID and election outcomes. It’s hard to see a long lasting decline in light of the fundamentals. And the Fed’s policy is quite bullish in the macro sense. But 2020 has been anything but ordinary. Remaining cautiously optimistic for the next couple years, but its likely to be a very bumpy ride!

Leading Economic Index (LEI)

The Conference Board’s Leading Economic Index report was released this morning. The index increased 1.2% for the month of August, which makes 4 straight months of increases.

Although its important to note the pace of growth has slowed each month, leading the board to conclude “Taken together, the current behavior of the composite indexes and their components suggests that the pace of economic improvement may be slowing, and the US economy will start the new year under substantially weak conditions.”

The LEI remains below its pre-COVID highs. Bear in mind, the 0% interest rate forever policy sets the bar extremely low in terms of economic growth. Its entirely possible the stock market can continue its ascent in spite of a sluggish economy.

Unfortunately, it all comes down to the pace of the virus. If there were more lockdowns in the fall/winter (another big mistake), you can throw all economic and market forecasts out the window.

After breaking out to new highs, the S&P 500 has pull backed to its prior highs in March and the 50 day moving average. In the chart above you can see a couple of 7-8% pull backs off the March lows.

The current short term setup appears to be, a break and close above 3430 puts a retest of prior highs and probably new highs on the table. A break below 3300 probably means a bigger decline back in the vicinity of the 200 day average.

I’m watching the Nasdaq chart, since it overshot its March highs quite a bit more than the S&P 500 due to its heavy tech weighting. Continued weakness could put a retest of those highs as support (in the vicinity of 10K).

Next week we have plenty of Fed speak, New Home sales, weekly unemployment claims, and a couple of earnings reports on deck (Nike & Costco).