Change brings uncertainty. Ben Bernanke – the outgoing Chairman of the Federal Reserve – may have announced the start of tapering last month, but the history books will surely award him the honorary title of ‘Mr QE’. How does that ‘poem’ go again?
‘Yo, we up in the Fed / and we living in style / Spending lots of money / while we sipping crystal
still making it rain / and yeah it be so pleasing / wait, not making it rain— / we be “Quantitative Easing!”
QE1, QE2 / QE4, QE3 / Dropping IOU’s / in every fund that I see’
It may not have been subtle, it may not have been clever, but for financial assets it was wonderfully effective. Five years of US market 5%+ gains in the venerable Dow Jones index. To put that into context – and take a look at the chart below – we’ve never had six. Ben: those long of equities in the last five years salute you. Enjoy your time on the beach.
In a matter of weeks Janet Yellen will replace Ben Bernanke. Many column inches have been written in the world’s financial media trying to work out if she is of a similar mindset to Mr Bernanke. In reality she probably is but, to go back to where I started this article, change brings uncertainty.
The appointment of Ms Yellen is not the only change upcoming to the Federal Reserve board. Other members are changing too as part of a complex, but regular, reshuffling. The previously unified pro-QE view is starting to be challenged. This will be a big theme of 2014 for Central Bank watchers.
Does it matter? In a word: ‘yes’. The trouble is, all of this is happening at a time when it is easy to believe the US economy is finally poised to lift off again. Did you see the employment numbers out yesterday? They make, as shown below, a nice chart.
If this was a share price chart, technical gurus would be talking about it being poised for a break-out.
Dig more deeply though and it goes without saying that most of the jobs being created are at the lower wage end. That’s not good.
It is the same with economic growth rates. Do you remember the strong Q3 US growth print of a few weeks ago? The first revision had half of the gain being driven by shifts in inventories which is the lowest form of quality economic growth you can get. The second revision tempered this a little but got some analysts wondering if statisticians really have a feel for the underlying US economy or not.
A grouping that should have a view are US corporates. Two trends particularly strike me here. First, a couple of investment banks (yes, they are useful for something) have noted that aggregate cash balances keep on building. Companies are responding to what they see and feel about the US (and global) economy by increasing their cash holdings. Hmmm.
Second, just before the big quarterly earnings round properly kicks off in the US, there has never been so many negative revisions to earnings outlook. As the chart below shows, these massively outweigh any positive revisions.
So let’s summarise all this. Change at the Federal Reserve. A likely continued change in the supportive QE policy. An economy which looks better but has issues if you scrape below the surface and, reflecting this, real companies selling real products are building cash and cutting earnings hopes.
My copy of the Financial Times today tells me that the US market is trading at just above a x16 P/E rating with a 2% odd yield. That’s very full given the above. As always there will be some strong individual stock opportunities but big picture markets-wise in the US, you have got to be cautious.
Time to sell a few US stocks or dust down some protective strategies.
By Chris Bailey from Financialorbit.com