Happy Summer! From the Brexit low on June 27, U.S. stocks have staged an impressive rally. On July 20, 2016 the DOW and the S&P set all-time highs at 18,622.01 and 2,175.63 respectively. Up to this point, investors had remained “neutral" with the highest level of uncertainty since the '87 crash, yet markets have climbed – a result of (1) fuel for the market because of this stance (and likely portfolio positioning) and (2) better economic data.
Reporting better data:
- Industrial production up 0.6% in June vs 0.3% consensus
- Retail sales up 0.6% vs. 0.1 consensus
- Initial unemployment claims down to 254K as of July 14 vs. 265K consensus
- NFIB small business optimism index up to 94.5 in June vs. 93.9 consensus
- Payrolls up 287 K vs. 180K consensus
Many of these economic indicators are leading indications so to see the markets moving higher is not surprising. In the aftermath of Brexit, the fed funds futures market was forecasting a 15% chance of a rate hike by year-end; it is now up to 45%.
Uncertainty around global central bank policy persists in spite of $1.3 trillion in assets the Fed, the European Central Bank, Bank of Japan and Peoples Bank of China have added to their balance sheets; but the effect so far has neither boosted growth nor inflation. Additionally, 1/3 of developed international bonds indexes have negative yields of which the ultimate consequences are unknowable.
The U.S. economy continues to show meaningful signs of improvement, and although valuations are a bit rich, the near-term end to the bull market seems unlikely. Inherent risks include these lofty valuations, an acceleration of investor optimism, election-related uncertainty and Fed-related uncertainty – any of which could cause volatility to persist in the context of this maturing bull market.
One interesting statistic:
19th Longest Stretch
Prior to the market's breakout, the S&P 500 had gone 413 days without a new one-year high. According to Ned Davis Research, that was the 19th longest stretch in the S&P 500's history. The median returns looking forward after the prior 18 longest stretches were well above normal (especially one year later), as you can see below.