The Daily Prophet: Bull Market In Stocks Is Dependent on CEOs

Connecting the dots in global markets.

Stocks staged one of their biggest rallies of the summer on Tuesday, and the consensus was that it was due to an easing of political tensions in Washington and some progress on tax cuts. In reality, with Congress not in session and President Donald Trump staying away from Twitter, nothing happened in Washington. Maybe if nothing happened in Washington more often, the bulls wouldn’t be so nervous about the decisive nature of politics, giving them time to be nervous about things like corporate earnings.  

On that front, one chart sent around by Jeffrey Kleintop, Charles Schwab Corp.’s chief global strategist, has been generating a lot of buzz among investors this week. It shows that the global earnings per share forecast has risen to $30 for only the fourth time since the start of the financial crisis. The bullish case is that such lofty expectations underscore the synchronized recovery in the global economy and the generally good health of companies. The bears would point out that stocks didn’t fare too well whenever earnings estimates reached that level. Either way, stocks are priced for perfection and any misstep or disappointment is likely to be met with heavy selling.

What does Kleintop think? He wrote in a research report that in order for the world's stock market to keep rising, earnings estimates must push through the $30 level given that the average stock price-to-earnings ratio is close to a 15-year high. But Kleintop thinks the odds of that happening are good given that all of the world's top 20 economies are growing in 2017, marking the first year this has happened since 2010.


BOND CURVES AND CENTRAL BANKS

The debate about whether the slowdown in inflation is transitory or structural will heat up in coming days as global central bankers descend on Jackson Hole, Wyoming, for the Federal Reserve’s annual retreat. One group that that believes what’s happening is structural is bond traders. That can be seen in the global yield curves, which have been shrinking again. The gap in yields between government bonds due from one to three years and those due in 10 years or more has narrowed about 30 basis points sine early February based on Bank of America Merrill Lynch indexes. If bond traders really believed inflation was about to take off, then long-term bonds would tend to underperform, causing the curve to widen. That's because inflation erodes the value of fixed payments over time, so the more payments you have coming, the more you are at risk of losing purchasing power. So, since the curve is narrowing, there must be very little concern about faster inflation. “The problem is there has been no catalyst for being short the market, even though it looks like there are a lot of good reasons for it,” Subadra Rajappa, head of U.S. interest-rate strategy at Societe Generale, told Bloomberg News’ Liz McCormick. “You are in a Goldilocks scenario because you have low inflation and the market pricing a much-less-aggressive Fed.”


GOLD REACHES CRITICAL LEVEL 
It would be easy to dismiss the signals being sent by the bond market if it weren’t for the fact that other key markets are sending a similar message. Take gold. The precious metal has been on the rise and is again flirting with the key $1,300 an ounce level. Yes, gold is generally seen as an inflation hedge, but it also is in demand in times of turmoil, economic slowdowns and periods of falling interest rates -- and there’s no shortage of those types of risks in global markets. Francisco Blanch, the global head of commodities research at Bank of America Merrill Lynch, says gold is on track to climb to a four-year high of $1,400 an ounce by early next year, buoyed by lower long-term U.S. rates and lack of progress by President Donald Trump in delivering economic reforms. Prices will also rise in dollar terms as a shift in economic cycles between the U.S. and Europe strengthens the euro, according to Bloomberg News’ Ranjeetha Pakiam. Money managers boosted net-bullish bets on New York futures to the highest since October, while billionaire Ray Dalio, who leads the world’s largest hedge fund at Bridgewater Associates, recommends investors consider placing as much as 10 percent of their assets in gold.


POUND POUNDED ANEW

Given all the headwinds the U.K. faces as it works to extricate itself from the European Union, it’s hard to believe that the last time the Bloomberg Pound Index had fallen for two straight months was September and October of last year. But sterling is in jeopardy of starting a new monthly losing streak if things don’t turn around soon. After falling 0.62 percent in July, the Bloomberg Pound Index is down an additional 2.52 percent in August. The U.K. currency had an especially tough day Tuesday amid lingering uncertainties about how long it will take for Britain to forge post-Brexit trade agreements with the EU, according to Bloomberg News Anooja Debnath. Britain and the EU still haven’t reached an agreement on when it would be time to start discussing a trade deal. The pound has been buffeted not just by political uncertainty but also by underwhelming data. While a report released Tuesday showed that Britain posted its first July budget surplus in 15 years last month, debt costs in the fiscal year to date rose by 23 percent, the biggest increase for the period since 2010. Recent data has showed consumers are under pressure and wage growth lagging behind inflation.

KOREAN TENSIONS START TO SHOW UP IN LOCAL MARKETS 
It took some time, but North Korea’s saber-rattling is finally having an impact on South Korea’s bond market. Foreign investors have started to look for the exits, selling a net $415 million worth of Korean notes last week, only the second weekly outflow since November, according to the nation’s Financial Supervisory Service. That’s a precipitous drop from the $4.3 billion of net buying in the second week of July, which was a record according to data going back to 2011, according to Bloomberg News’ Narae Kim and Liau Y-Sing. Concerns over a standoff on the Korean peninsula show little sign of abating with South Korea and the U.S. beginning 10 days of annual military drills on Monday. “With currency volatility surging on geopolitical tensions, the appetite of foreign investors toward local debt may likely decline from the peak,” said Edward Ng, a fixed-income portfolio manager at Nikko Asset Management, which oversaw $183 billion at the end of March. mid the heated rhetoric, South Korea’s sovereign bond risk rose to the highest level since February 2016 last week, putting it briefly above the cost of protecting against a default by China for the first time since May 2013. Benchmark 10-year bond yields have climbed about eight basis points to 2.31 percent in August while the South Korean won has lost 1.4 percent in the past month in Asia’s worst performance.


TEA LEAVES
Wednesday is PMI day in the euro zone, meaning investors will get some confirmation of whether the recent weak economic data coming out of the region was just a blip amid a broader strengthening trend or something more worrisome. The median estimate in a survey of economists by Bloomberg News is for an August reading of 55.5, little changed from the 55.7 in July, but the forward looking sub-indexes from that report suggested a slowdown in new orders, which could weigh on the August reading. The currency market will be paying especially close attention, as the Bloomberg Euro Index had posted strong gains in each of the past four months on the notion that the region’s economy was enjoying stronger growth but is flat in August as traders parse the latest data.

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