Mon, 02/20/2017 - 10:30am

John Davidson

Neither Economic releases nor earnings increases can explain the surge in equity prices. Nonetheless, reports in the US were mostly positive; elsewhere they were mixed. With exception of the Nikkei, equity markets were up around the globe, with the biggest gains in the US and Hong Kong. Interest rates were little changed, but credit spreads were a touch narrower. Energy commodity prices fell, but metals and Corn commodity prices were up on the week.

Perspective:

According to Factset, the S&P 500 closed this week at the highest Price/Earnings (P/E) ratio since 2004, 17.6 times 12-month forward earnings estimates. What does this mean? Factset collects earnings expectations from analysts whose job it is to accurately project those earnings; their reputations and compensation is a function of those estimates. Factset then aggregates those estimates for the S&P 500 companies to calculate the earnings projected for the next 12 months, now $133.49. The S&P Index, closing the week at 2,351, is then compared to the forward earnings to determine the Price-to-Earnings valuation. Factset has tracked their historic P/E ratios using their historic forward estimates for comparison. The average P/E ratio for the past 5-years was 15.2; for the past 10-years the average was 14.4, and the past 20 years the average was 17.2. Note that the 20-year period includes the Y2K and go-go tech bubble periods. Prior to the November Election in the US, the P/E ratio was 16.0; at year end, it had expanded to 16.9. The closing S&P 500 P/E ratio of 17.6 was higher than any of those averages, higher than just prior to the election, higher than year-end, and higher than any time since 2004.

Some attribute the surge in stock prices to expectations for lower tax rates and an easier regulatory environment promised by the new administration. There is some logic to that attribution, but stock prices have increased much more than earnings estimates. Possible explanations are: 1) Earnings revisions have yet to reflect new tax rates. 2) The benefit is likely to be reflected in earnings beyond the 12 month projections. 3) Irrational enthusiasm has expanded beyond earnings expectations. In any event, stock prices have already incorporated a great deal of optimism, raising the question: What if expectations are not achieved?

This year's Camden Conference, Refugees and Global Migration: Humanity's Crisis, was outstanding, as expected. Livestream videos of the Conference will be available in the coming weeks from the www.camdenconference.org website. I spoke with both Congresswomen Chellie Pingree and representatives from Senator Angus King's office, who were in attendance to learn from a wide range of experts on immigration and refugees. Spoiler alert: None of the speakers were aware of any event recent related to immigration happening in Sweden.

Economic Releases: US Housing

The recovery in US housing continued in January, but the recovery has yet to reach the pre-Great-Recession levels. Housing Starts (SAAR, blue in the chart below) were 1.246 million, just below the upward revised 1.279 million in December. Permits (SAAR, red in the chart below) increased to 1.285 million. In other housing news, the National Association of Home Builders' Housing Market Index fell 2 points to 65 in February.

Source: St Louis Federal Reserve, FRED, Econoday via WSJ.com

Other US Releases:

The weekly Initial Claims for Unemployment Benefits fell 5,000 to 239,000; the 4-week average of Claims inched higher to 245,250; Continuing Claims fell 3,000 to 2.076 near record lows. Retail Sales increased +0.4% in January; not only was that release above the range of expectations, but December's release was revised 4 ticks higher to 1.0%; Ex-auto's Retail Sales increased +0.8%, also above the range of expectations. Leading Indicators rose +0.6% in January (just above the range of expectations). On the softer side,Industrial Production fell -0.3% in January; Capacity Utilization fell 2 ticks to 75.3. Fed Chair Janet Yellen gave her semi-annual testimony to both Houses of Congress this week, indicating likely data-dependent increases in Fed Funds rates independent of the prospect of stimulus likely to come from the Trump administration.

Source: Econoday and the Wall Street Journal

Economic Releases outside the US

Industrial Production (IP) in the Eurozone fell -1/6% in December, an increase of only +2.0% from a year ago. EU's flash GDP for the 4th quarter of last year rose +0.4% Germany's GDP also rose +0.4%, Germany's ZEW Surveys of Current Conditions and Business Expectations both fell in February. In the UK, the ILO Unemployment Rate remained 4.8% and Retail Sales fell -0.3% in January.

Japan's 4th quarter GDP rose +0.2% (1.0% SAAR) and a 1.6% increase from a year ago.

Source: Econoday and the Wall Street Journal

Equity and Bond Index Returns:

Equity markets rose on optimism over tax rates and regulatory relief in the US. Narrowing credit spreads pushed the Bloomberg bond indices into positive territory for the week.

Equity Indices % Change	Price	Week	QTD	ETD	Calendar	'08-'16
since:	02/17/17	02/10/17	12/30/16	11/04/16	2016	12/31/08
Dow Jones Industrials	20,624	1.7%	4.4%	15.3%	13.4%	125.2%
S&P 500 Index	2,351	1.5%	5.0%	12.8%	9.5%	147.9%
Nasdaq	5,839	1.8%	8.5%	15.7%	7.5%	241.3%
S&P/TSX Composite	15,839	0.7%	3.6%	9.2%	17.5%	70.1%
FTSE 100 Index	7,300	0.6%	2.2%	9.1%	14.4%	61.1%
CAC 40 Index	4,868	0.8%	0.1%	11.2%	4.9%	51.1%
DAX Index	11,757	0.8%	2.4%	14.6%	6.9%	138.7%
Swiss Market Index	8,506	0.6%	3.5%	12.0%	-6.8%	48.5%
Nikkei 225 Index	19,235	-0.7%	0.6%	13.8%	0.4%	115.7%
HK Hang Seng Index	24,004	1.8%	9.1%	6.0%	0.4%	52.9%
Shanghai CSI 300	3421	0.2%	3.4%	2.0%	-11.3%	82.1%
Bond Indices % Total Return
Bloomberg Treasury Index	124.6	-0.1%	0.4%	-3.0%	1.0%	19.5%
Bloomberg Corporate Index	144.7	0.1%	0.7%	-1.4%	5.9%	72.1%
Bloomberg High Yield Index	173.9	0.2%	2.4%	4.4%	17.4%	167.4%
S&P 500 Valuation
Factset forward Earnings	$133.49		$132.79	$130.69	$132.79	20-Year Ave
% Change in Earnings			0.5%	2.1%	4.5%	17.2
					5-Year Ave	10-Year Ave
Price/Earnings Ratio	17.6		16.9	16.0	15.2	14.4
Factset Reports: Highest Forward P/E ratio since 2004 even with record Q2-Q4 2017 projections

In the tables I have kept the Election to Date (ETD) data and added the Quarter to Date (QTD) in addition to the Calendar 2016 and 8-year records.

Data Source: Bloomberg app for the Iphone; Earning Estimates from Factset

Bond Yields and Spreads:

Bond yields were little changed on the week, but credit spreads were a touch narrower on the week. The TIPS spread narrowed, but the yield curve steepened, giving conflicting signals on inflation expectations.

Government Bonds	Bond Yields (%)	bp chg	QTD	ETD	Calendar	'08-'16
since:	02 /17/ 17	02 /10/ 17	12 /30/ 16	11 /04/ 16	2016	12/31/08
UST 2-Year	1.19	0	0	41	14	42
UST 10-Year	2.41	0	-3	63	17	23
US TIP 10-Year	0.39	2	-8	30	-23	-163
UST 30-Year	3.02	1	-5	46	5	39
Canadian 10-Year	1.70	1	-1	55	32	-97
UK 10-Year	1.21	-4	-2	8	-73	-179
French 10-Year	1.03	-1	35	57	-30	-273
German 10-Year	0.30	-2	10	17	-43	-275
Swiss 10-Year	-0.18	0	8	23	-14	-236
Japan 10-Year	0.08	0	4	15	-22	-113
Bloomberg Credit Spreads		bp chg	bp chg	bp chg	bp chg	bp chg
Corp OAS BUSC	127	-1	-1	-16	-43	-445
HY OAS BUHY	387	-2	-42	-125	-304	-1374
Rates		bp chg	bp chg	bp chg	bp chg	bp chg
US Mort 30-yr %	4.01	1	-8	52	16	-117
Spreads
10-Year TIPS Spread	2.02	-2	5	33	40	185
Yield Curve (2's to 10's)	1.22	0	-3	22	3	-20
Yield Curve (10's to 30's)	0.61	1	-2	-17	-12	17
Yield Curve (2's to 30's)	1.83	1	-5	5	-9	-3

Data Source: Bloomberg app for the Iphone

Currency and Commodity Markets:

The US dollar strengthened against the Loonie and European currencies this week. Energy commodity prices declined, but metals and Corn commodity prices increased on the week.

Currencies vs $	Closing	Week	QTD	ETD	Calendar	'08-'16
since:	02 /17/ 17	02 /10/ 17	12 /30/ 16	11 /04/ 16	2016	12 /31/ 08
Yen	88.62	0.3%	3.7%	-8.6%	2.8%	-22.5%
British Pound	1.24	-0.6%	0.7%	-0.9%	-16.4%	-15.5%
Euro	1.06	-0.3%	0.9%	-4.7%	-3.2%	-24.7%
Canadian Dollar	76.35	-0.1%	2.6%	2.3%	2.9%	-9.5%
China Renminbi	14.56	0.2%	1.1%	-1.6%	-6.5%	-1.6%
Commodities
West Texas Interm	$53.40	-0.9%	-0.8%	21.2%	45.4%	20.7%
Brent Crude	$55.81	-1.6%	-1.8%	22.4%	52.4%	58.6%
Natural Gas	$2.83	-6.6%	-24.2%	2.3%	60.5%	-35.6%
Spot Gold	$1235	0.1%	7.2%	-5.4%	8.5%	32.4%
Spot Silver	$18.00	0.4%	12.9%	-2.3%	15.2%	40.7%
CBOT Corn	$375.50	0.3%	6.7%	7.7%	-1.9%	-2.1%
Spreads
Brent-WTI	$2.41	-15.1%	-19.1%	59.6%	$0.24	-$8.78

Data Source: Bloomberg app for the Iphone

Equity Index Gains in US dollar terms:

The equity table above shows the percent change of different stock indices in terms of its local currency. To calculate the return to the US dollar investor one must combine the change of each index with the change in the applicable currency. The following table shows the 5-day, quarter-to-date and year-to-date results of investments made in each index in US dollar terms:

Return to USD Investor		% Chg	QTD	ETD	Calendar
	since:	02/10/ 17	12 /30/ 16	11 /04/ 16	2016	'08-'16
S&P 500 Index:	USD	1.5%	5.0%	12.8%	9.5%	147.9%
Nikkei 225 Index:	Yen	-0.4%	4.3%	4.0%	3.2%	67.3%
FTSE 100 Index:	Pound	-0.1%	2.9%	8.1%	-4.4%	36.0%
DAX Index:	Euro	0.5%	3.3%	9.2%	3.4%	79.7%
CAC 40 Index:	Euro	0.6%	1.0%	5.9%	1.5%	13.7%
S&P/TSX Composite:	CAD	0.6%	6.2%	11.7%	21.0%	54.0%
Shanghai CSI 300:	Yuan	0.4%	4.5%	0.4%	-17.0%	82.1%

The S&P 500 was the best place for the US dollar investor to have been invested this week.
Since year-end, only the TSX was a better place for the US dollar investor to have been invested.

Disclaimer:

The views discussed herein are exclusively those of John W. Davidson. These views are not meant as investment advice, and are subject to change. Information contained herein is derived from sources believed to be reliable, however, Mr. Davidson does not represent that the information is complete or accurate and therefore, should not be relied upon as such. All opinions expressed herein are subject to change without notice. This information is prepared for general information purposes only, and does not pertain to specific investment objectives, the financial situation or the particular needs of any specific person or investor who might receive this report. Investors should seek financial advice regarding the appropriateness of investing in any security or utilizing any investment strategy discussed or recommended in this report, and should understand that statements regarding future investment prospects may not be realized. No part of this report may be reproduced in any manner without the express written permission of Mr. John W. Davidson. Should you wish to be removed from this distribution please utilize the Safe Unsubscribe link below.