Bob’s Journal for 5/2/19

Several stock indexes set new record closing highs in the last week, but not all the market data is positive.

Most market observers look at data other than the levels of the indexes when assessing the markets. They look at data that collectively are known as market internals, technical factors or market action.

Whatever you call it, not all of the data are confirming the stock rally. Sometimes the market internals need time to catch up with the indexes and confirm the strength of the rally. At other times, the lack of confirmation turns out to be a warning that the indexes were about to give up some of their recent gains.

One measure of market action that is positive is the cumulative advance/decline line (A/D line). This is the ratio of the number of stocks rising in price (advancing) to the number declining in price each day. Currently, the A/D line confirms the market rally. In fact, it has been ahead of the indexes. It began rising before the market indexes hit bottom last December and has been making a series of new highs the last few months.

But the percentage of stocks reaching new 52-week highs isn’t as positive. The percentage of new highs has been fairly low. When the index set its recent new highs, the percentage of stocks reaching new highs was lower than it had been on non-record days. Only around 8% of stocks reached new 52-week highs when major indexes recorded record highs last Tuesday. To confirm the strength of the rally, we need to see a higher percentage of stocks reaching new 52-week highs.

The spread between interest rates on high-yield bonds and rates on treasuries also isn’t falling as sharply as it does during enduring rallies.

To be sure, high-yield bonds have had a strong year. But their yields haven’t declined as sharply as other yields. Normally, a strong stock market rally is accompanied by optimism about the economy, so investors will accept lower yields on high-yield bonds.

That’s not the case now. In fact, the high-yield interest rate spread has increased from when the indexes were setting new tops in 2018.

Some investors also review how the market reacts after companies announce higher expectations for the coming quarter or longer. In a good market, a company’s stock price rises more than the average stock after it raises expectations for the future. But so far in this earnings season, stocks of companies raising expectations haven’t had the usual bounce.

Cash flows are another worrisome indicator. Though stock indexes have been rising, data on mutual funds and exchange-traded funds indicate investors have been net sellers of stocks in favor of other assets.

It could be these market internals will fall in line with the stock indexes over time. Or the data might be indicating the stock rally isn’t strong and sustainable.

These indicators aren’t warnings to sell stocks. But investors who aren’t long-term, buy-and-hold investors should establish a plan. Decide now the market or economic data that will cause you to reduce your stock positions and by how much you’ll reduce them.

The Data

The Kansas City Fed Manufacturing Index is the latest report that indicates manufacturing activity eased recently. The index was reported at 5 for April, compared to 10 for March. The March index reading was the highest in four months.

The Dallas Fed Manufacturing Survey had similar results. The General Activity Index declined to 2.0 from 6.9. The Production Index increased to 12.4 from 10.5. Also, last month’s numbers were revised lower.

The PMI Manufacturing Index improved slightly in April to 52.6 from 52.4. Exports remain the weak part of the report, with survey respondents saying both trade conflicts and weak foreign demand are to blame.

But the ISM Manufacturing Index tumbled to 52.8 from 55.3. This is the weakest level in almost two years. New orders and exports were major drags on the index.

The Chicago Purchasing Managers Index fell to 52.6 from 58.7. That follows a seven-point decline last month. This index is based on a relatively small sample and so is volatile over short periods.

Home prices are rising at a much lower rate, according to the S&P Corelogic Case-Shiller House Price Index. Prices increased 0.2% in February and 3% over 12 months. That’s the lowest 12-month growth rate since August 2012.

But Pending Home Sales finally jumped higher by 3.8% in March, according to the National Association of Realtors. It looks like lower interest rates are helping home sales this spring. Over 12 months, the measure is down 1.2%.

Consumer Sentiment, as measured by the University of Michigan, declined to 97.2 from 98.4. This is higher than the low reading we saw at the start of the year during the government shutdown and in line with average levels during 2018.

But Consumer Confidence, as measured by The Conference Board, increased to 129.2 from 124.2. Both the present situation and expectations segments were sharply higher. Even so, the survey revealed fewer consumer plans to make major purchases in the next six months.

The labor market continues to look strong. The ADP Employment Report said private sector jobs increased by 275,000 in April. That’s well above expectations and is a stark contrast to the disappointing results of the previous two months.

Workers produced 4.1% more while working only 0.5% more hours in the first quarter, leading to a 3.6% increase in productivity. That’s the largest productivity increase since 2014 and the best annual increase in productivity since 2010. Compensation increased 1.7% after inflation and unit labor costs declined 0.9% for the quarter. These results should be helping corporate earnings and indicate the increased investment in business equipment over the last year is paying off.

New unemployment claims were unchanged at 230,000. This follows the large and unexpected 37,000 increase last week. This raises the four-week average to 212,500 from 206,000. The Challenger Job-Cut Report, which I don’t report regularly, shows job-cut announcements are 31% higher this year than at this time last year. The Challenger reports and new unemployment claims could be giving us an early indication that the great employment boom is ending.

The Personal Income and Outlays data still are late and unreliable. The Bureau of Economic Analysis is catching up from the government shutdown. The data show that personal income and consumer spending both increased at low rates during the first months of the year. Also, inflation as measured by the PCE Price Index is 1.3% over 12 months. Excluding food and energy, the PCE Price Index is 1.7%.

Gross domestic product (GDP) for the first quarter increased at a surprising 3.2% annual growth rate. But the level was distorted by a big jump in inventories. Rising inventory increases GDP in the calculation, but inventory changes even out over time. Rising inventories should be a negative factor, because they likely indicate that demand is slowing. I suspect the growth rate in the first quarter really was less than 3.2%.

The Markets

The S&P 500 declined 0.14% for the week ended with Wednesday’s close. The Dow Jones Industrial Average fell 0.67%. The Russell 2000 dropped 0.80%. The All-Country World Index (excluding U.S. stocks) gained 0.17%. Emerging market equities fell 0.39%.

Long-term treasuries rose 0.48% for the week. Investment-grade bonds fell 0.08%. Treasury Inflation-Protected Securities (TIPS) gave up 0.11%. High-yield bonds dipped 0.06%.

On the currency front, the dollar declined 0.34%.

Energy-based commodities slid 1.74%. Broader-based commodities fell 1.45%, while gold dipped 0.08%.

Bob’s News & Updates

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