The disconnect between long-term and short-term rates

Bob Doll highlighted the disconnect between long-term and short-term rates in his latest review. The chart below plots the 3-month T-bill rate against 10-year Treasury yields.

Spot Gold/Light Crude

At this stage, the disconnect is not significant. But a disconnect as in 2004 – 2005 is far more serious. Large Chinese purchases of Treasuries prevented long-term rates from rising in response to Fed tightening, limiting the Fed’s ability to contain the housing bubble.

Bob Doll: Mid-Year Assessment of Our Ten Predictions

Interesting review of Bob Doll’s ten predictions for the year. They highlight the hazards of making predictions: you can be right for the wrong reasons or wrong for the right reasons.

1 ❓ U.S. and global economic growth improves modestly as the dollar strengthens and reaches parity with the euro.
First quarter U.S. gross domestic product growth was relatively slow at 1.2%, but we think second quarter growth could approach 3%. We are on the wrong side of this second prediction, as the euro has advanced against the dollar.

2 ✔ Unemployment drops to its lowest level in 17 years as wages increase at the fastest pace since the Great Recession.
The first half of this prediction came true in May, when unemployment hit 4.3%, lower than the 4.4% reached in May 2007. Wage growth has remained stubbornly slow, but we expect wages will rise.
[Unemployment fell as expected but I would rate this a “?” as wage growth impacts on inflation and is an important part of the overall scenario.]

3 ❓ Treasury yields move higher for a third consecutive year for the first time in 36 years as the Fed raises rates at least twice.
In June, the Fed raised interest rates for the second time this year. Treasury yields, however, are lower now than at the start of the year.
[“X” IMO. A disconnect between long-term and short-term rates, as in 2004-2005, limits the Fed’s ability to control asset bubbles and inflation.]

4 ❓ Stocks hit their 2017 highs in the first half of the year as earnings rise but price/earnings multiples fall.
Equity markets hover close to their all-time highs, but the momentum that dominated the first part of the year has faded. Earnings have improved dramatically: S&P 500 earnings were up almost 14% in the first quarter, although multiples have risen.
[Stocks rising faster than earnings is typical of a stage III bull market]

5 ❓ Stocks outperform bonds for the sixth year in a row for the first time in 20 years while volatility rises.
Stocks are currently comfortably ahead of bonds. While volatility has actually fallen this year, we expect it to pick up in the coming months.
[Volatility is close to record lows and likely to stay there if no major geo-political surprises.]

6 ❌ Small caps, cyclical sectors and value styles beat large caps, defensive and growth areas.
We are on the wrong side of all three components of this prediction. We expect economic growth to rebound this year, which should lead investors to bid up cyclical and value sectors.
[Large caps and defensive stocks are overpriced because of low yields. Growth stocks are typical of stage III but normally joined by small caps.]

7 ✔ The financials, health care and information technology sectors outperform energy, utilities and materials.
A basket of our favored sectors (up 14.0%) is comfortably outperforming a basket of our least-favored ones (up 2.5%).
[Good call.]

8 ✔ Active managers’ performance improves as flows into equities rise.
Last year, only 19% of U.S. large cap active equity managers beat their benchmarks. As of May, 52% are ahead. The pace of equity fund outflows has also slowed this year.
[I would rate this a “?”.]

9 ✔ Nationalist and protectionist trends rise as pro-domestic policies are pursued globally.
President Trump announced a withdrawal from the Paris climate change accords, has reconsidered trade deals and questioned fellow NATO member states. In Europe, Brexit negotiations are ongoing, although the French presidential election provided a nod back toward globalization.
[Nationalism still dominates.]

10 ✔ Initial optimism about the Trump agenda fades in light of slow legislative progress.
It is almost hard to remember the high level of political optimism when we made this prediction six months ago. Now the pendulum may have swung too far in the opposite direction.
[Good call. Little has been achieved on infrastructure and tax reform.]

[Conclusion: Secular trends, as in #7, make the most reliable predictions, while it’s hard to beat a 50% success rate with shorter cycles.]

Source: Weekly Investment Commentary from Bob Doll | Nuveen

S&P 500 hesitates at 2450

The S&P 500 hesitated at 2450, short of its target of 2500*. Bearish divergence on Twiggs Money Flow warns of medium-term selling pressure. Expect stronger resistance at 2500.

S&P 500

Tech stocks are advancing at a rapid pace, with the Nasdaq 100 approaching 6000 after only breaking 5000 in January. Rising troughs on Twiggs Money Flow signal strong buying pressure. No signs of a ‘blow-off’ yet.

Nasdaq 100

Stage III of a bull market can last several years.

Canada: TSX 60 testing 900

The TSX 60 continues to test support at 900 after a breakout in December 2016. Follow-through below 890 would confirm a primary down-trend. Falling crude oil prices and exposure of banks to precarious housing prices are driving selling pressure.

TSX 60 Index

S&P 500 stays on course

The S&P 500 continues to advance, with a short-term target of 2500*. Bearish divergence on Twiggs Money Flow warns of rising selling pressure. While secondary (medium-term) in nature we should expect stronger resistance at 2500.

S&P 500

Bellwether transport stock Fedex is advancing strongly after breaking out above $200, signaling rising economic activity in the economy.


Stage III of a bull market can last for several years.

The Myth Of The “Passive Indexing” Revolution | RIA

From Lance Roberts at RIA:

While the idea of passive indexing works while all prices are rising, the reverse is also true. The problem is that once prices begin to fall the previously “passive indexer” becomes an “active panic seller.” With the flood of money into “passive index” and “yield funds,” the tables are once again set for a dramatic and damaging ending.

Source: The Myth Of The “Passive Indexing” Revolution | RIA

Draining the swamp?

WASHINGTON—The Trump administration proposed a wide-ranging rethink of the rules governing the U.S. financial sector in a report that makes scores of recommendations that have been on the banking industry’s wish list for years.

….If Mr. Trump’s regulatory appointees eventually implement them, the recommendations would neuter or pare back restrictions from the Obama administration, which argued the rules were necessary to guard against excessive risk taking and a repeat of the 2008 financial crisis.

Seems to me like the exact opposite of ‘draining the swamp’. The new administration proposes removing or limiting the rules intended to reduce risk-taking in the financial sector.

This could end badly.

Especially with bank capital at current low levels.

Source: Trump Team Proposes Broad Rethink of Financial Rulebook – WSJ

Steady growth in US hours worked

Growth of total hours worked, calculated as Total Nonfarm Payroll multiplied by Average Hours worked, improved to 1.575% for the 12 months to May 2017.

Total Hours Worked

And the April 2017 Leading Index, produced the Philadelphia Fed, is tracking at a healthy 1.64%. Decline below 1.0% is often an early warning of a slow-down; below 0.5% is more urgent.

Hourly Wage Rate Growth and Core CPI

Dow Jones Industrial Average continues to advance. Rising troughs on Twiggs Money Flow signal long-term buying pressure.

Dow Jones Industrial Average

Dow Jones Transportation Average is slower, headed for a test of resistance at 9500. But recent breakout of Fedex above $200 is an encouraging sign and the index is likely to follow.

Dow Jones Transportation Average

We are in stage III of a bull market, but this can last for several years.

Upside Possibilities Look More Likely Than Downside Risks | Bob Doll

From Bob Doll’s latest weekly update:

Investors remain highly focused on global political issues. Emmanuel Macron’s victory in France has reduced some political risk in Europe, but investors are growing increasingly skeptical about President Trump’s ability to deliver on his pro-growth agenda. The growing scrutiny over White House ties to Russian operatives, escalating risks of global terrorism and rising uncertainty around North Korea are all negatives for investor confidence.

But these negatives have not offset positive global macroeconomic conditions. Global economic growth is hardly robust, but looks better than it has in several years, especially in Europe. Manufacturing activity is improving and global trade appears to be recovering. Corporate profits are also trending higher across most markets and industry sectors. Financials remain a weak spot in many areas of the world, but we expect global bond yields will rise as economic growth solidifies, which should help this sector. Finally, monetary policy remains growth- and equity-friendly. The Fed is in the midst of a rate-hiking campaign, but should continue raising rates slowly and predictably…..

Source: Weekly Investment Commentary from Bob Doll | Nuveen

S&P 500, Nasdaq, Fedex bull signal

Bellwether transport stock Fedex [FDX] broke resistance at $200, signaling an increase in economic activity.


The S&P 500 followed through above 2400, offering an immediate target of 2500. Recovering Twiggs Money Flow signals medium-term buying pressure.

S&P 500

The Nasdaq 100 has gained more than 20% in the last 3 months, since breaking resistance at its Dotcom high of 4800. With Amazon breaking through $1000, I am concerned that tech stocks are over-heating.

Nasdaq 100

Is the US labor market tightening?

I wouldn’t read too much into weaker US job gains of 138 thousand for May 2017. Job gains seem to be tapering in 2017, with February highest at 232 thousand, but this could also be a sign of tightening labor conditions.

Monthly Nonfarm Payroll: Job Gains

Comments from respondents in yesterday’s ISM report showed hints of a tightening labor market:

  • “Business conditions are steady, and with competition increasing, it’s making negotiations even more intense to reduce costs.” (Machinery)
  • “Business is booming, and getting direct employees is increasingly difficult.” (Fabricated Metal Products)
  • “Difficult to find qualified labor for factory positions.” (Food, Beverage & Tobacco Products)

Unemployment continues to fall, reaching 4.3% for May 2017. The dip below the natural rate of unemployment also warns of tighter labor market conditions.

Unemployment and the Natural Rate

But there are no real signs of a tight labor market in hourly wages. In fact, hourly wage rate growth in the manufacturing sector is slowing.

Hourly Wage Rate Growth and Core CPI

Employee compensation as a percentage of value added (Q1 2017) is starting to rise and the percentage of profits (after tax) is declining. The lines tend to invert, with employee compensation peaking and profits dipping ahead of a recession. This still seems 12 months away.

Profits and Employee Compensation as % of Value Added

In summary, declining unemployment and rising employee compensation as a percentage of value added both indicate a tight labor market. But soft wage rate growth and falling core CPI suggest the Fed will be in no haste to apply the brakes. At least for the next three quarters.

ISM May 2017 Report

After a setback in April, activity in the manufacturing sector is again expanding:

May 2017
Index Series
Direction Rate
PMI® 54.9 54.8 +0.1 Growing Faster 9
New Orders 59.5 57.5 +2.0 Growing Faster 9
Production 57.1 58.6 -1.5 Growing Slower 9
Employment 53.5 52.0 +1.5 Growing Faster 8
Supplier Deliveries 53.1 55.1 -2.0 Slowing Slower 13
Inventories 51.5 51.0 +0.5 Growing Faster 2
Customers’ Inventories 49.5 45.5 +4.0 Too Low Slower 8
Prices 60.5 68.5 -8.0 Increasing Slower 15
Backlog of Orders 55.0 57.0 -2.0 Growing Slower 4
New Export Orders 57.5 59.5 -2.0 Growing Slower 15
Imports 53.5 55.5 -2.0 Growing Slower 4
OVERALL ECONOMY Growing Faster 96
Manufacturing Sector Growing Faster 9

Manufacturing ISM® Report On Business® data is seasonally adjusted for the New Orders, Production, Employment and Supplier Deliveries Indexes.

*Number of months moving in current direction.

Notable comments from respondents:

  • “Business conditions are steady, and with competition increasing, it’s making negotiations even more intense to reduce costs.” (Machinery)
  • “Business is booming, and getting direct employees is increasingly difficult.” (Fabricated Metal Products)
  • “Difficult to find qualified labor for factory positions.” (Food, Beverage & Tobacco Products)

Read the full report at ISM May Report

Weekly Investment Commentary from Bob Doll | Nuveen

Key points from Bob Doll’s weekly investment summary:

  • We believe U.S. economic growth should rebound in the second quarter and corporate earnings will remain solid.
  • Investors remain uneasy about global macro conditions, but we believe the backdrop remains supportive for equities.
  • We may be seeing a transition in global equity leadership from the United States to Europe and select emerging markets.

Contrast this with Philip Parker’s outlook at Altair Investments.

Read more at: Weekly Investment Commentary from Bob Doll | Nuveen

S&P 500: Tall shadows warn of selling pressure

The S&P 500 is recovering after Wednesday’s sharp fall but tall shadows on the last two candles indicate selling pressure. This is supported by a bearish divergence on 21-day Twiggs Money Flow, signaling medium-term selling pressure. Respect of resistance at 2400 is likely and would warn of another test of primary support at 2330.

S&P 500

Bellwether transport stock Fedex [FDX] has consolidated in a broad rectangle over the last six months. Bearish divergence on 13-week Twiggs Money Flow indicates long-term selling pressure. Breach of support at 185 would signal a primary down-trend, warning that economic activity is slowing.


Sell in May and run away?

Markets fell sharply today. But before we look at the charts, let’s examine three fundamental measures of market stress.

A yield differential near zero indicates bank margins are being squeezed. Lending normally slows, leading to a recession. But the current yield differential of 1.45%, calculated by subtracting the yield on 3-month T-bills from the yield on 10-year Treasuries, is reasonably healthy.

Yield Differential

The yield spread between the lowest investment grade corporate bonds (Baa) and 10-year Treasuries is a useful measure of market risk. The risk premium widens in times of uncertainty. Since 2016 the Baa spread has fallen by more than one percent, to 2.25%, indicating low market risk.

10-Year Corporate Bond Spreads

The above indications are supported by the St Louis Fed Financial Stress Index which is at a record low of -1.451 since its commencement in 1994.

St Louis Fed Financial Stress Index

The St Louis Fed Financial Stress Index measures the degree of financial stress in the markets and is constructed from 18 weekly data series: seven interest rate series, six yield spreads and five other indicators. Each of these variables captures some aspect of financial stress. Accordingly, as the level of financial stress in the economy changes, the data series are likely to move together.

The average value of the index, which begins in late 1993, is designed to be zero. Thus, zero is viewed as representing normal financial market conditions. Values below zero suggest below-average financial market stress, while values above zero suggest above-average financial market stress.

Real GDP growth dipped to 1.9% for the first quarter 2017, compared to 2.0% for Q4 2016. While growth is modest, hours worked by nonfarm employees improved to 1.55% in April 2017 from a low of 1.03% in February, suggesting that growth is likely to continue.

Real GDP & Hours Worked

There is little sign of stress in financial markets other than the latest Trump turmoil.

Trump Turmoil

Discussion of a possible impeachment action against President Donald Trump is rife in the media and seems to have spooked financial markets.

The Dollar Index fell through support at 98.50, signaling another decline. The long-term target is 93.00.

Dollar Index

Gold rallied, breaking through resistance at $1250/ounce. Follow-through above $1300 would signal another advance, with a target of the 2016 high at $1375.

Spot Gold

Dow Jones Industrial Average retreated from resistance at 21000. Expect a test of medium-term support at 20400. Reversal below 20000 would be cause for concern.

Dow Jones Industrial Average

The S&P 500 is headed for a test of medium-term support at 2320. Breach would likewise signal a strong correction.

S&P 500

We are likely to get a secondary correction but I expect the bull market to continue. Impeachment of Trump would be a temporary setback and would make me more bullish on the long-term outlook.

It’s probably better to have him inside the tent pissing out,
than outside the tent pissing in.

~ President Lyndon Johnson on FBI Director J. Edgar Hoover whom he mistrusted

The Only Question Investors Have Is About Trump | Bloomberg

Barry Ritholz sums up the impact President Donald Trump will have on your investments:

….We start with an overlooked truth: Presidents, regardless of party, get too much credit for when things go right and too much blame when they go wrong.

….Yes, Donald Trump can and will affect the economy and the markets. But we should not put all of our focus on the marginal impact of the president while giving short shrift to more important things such as corporate revenue and earnings, the Federal Reserve, interest rates, inflation, congressional spending, employment, retail sales, Supreme Court decisions, and, of course, valuations.

Quite right. Janet Yellen probably has more power over your investments than Trump does.

….I think we all hoped that once the election was over, we could go back to our normal lives without the incessant parade of campaign news.

No such luck.

Investors need a way to sequester the noisy news flow out of the White House. It is too easy to let the relentless and disturbing headlines throw off long-term financial plans. Investors must read the news, but not let it interfere with thinking clearly.

Look, let’s be honest about the commander-in-chief: He is the world’s leading Twitter troll, a man whose main goal is to interrupt your thinking, misquote and insult other people, engage in rhetorical sleight of hand, and impugn the integrity of those trying to do honest work. What all trolls want is a reaction, something Trump has achieved to great success.

Rule No. 1 on the internet is “Do not feed the trolls.” No one can really ignore the president of the United States, but it’s probably best to view much of what he says or tweets as minor background noise.

The President is not a conciliatory figure who is going to govern from the middle. The acrimonious feud with Democrats and the media is likely to continue for most of his term. So long as the GOP have a majority in Congress and the Senate, Trump has a fair shot at tax reform and infrastructure programs. If that should change, expect Obama-style gridlock.

Source: The Only Question Investors Have Is About Trump – Bloomberg

US inflation falls, Personal Consumption grows

A dip in the latest consumer price index (CPI) growth figures brings the inflation measure back in line with the Fed target of 2.0%. Inflationary pressures appear contained, easing Fed motivation to implement restrictive monetary policy.

Consumer Price Index

Personal consumption continues to grow at a modest pace. The down-turn in expenditure on services would be cause for concern — this normally precedes a recession — if not for a strong rise in expenditure on durables.

Personal Consumption

Manufacturers new orders for capital goods display a similar recovery.

Manufacturers New Orders: Capital Goods ex-Defense

The housing recovery continues at a modest pace.


Construction spending as a percentage of GDP remains soft, suggesting that the recovery still has plenty of room for improvement.