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The S&P 500 hit an historic high on a confluence of near-perfect market events.
I've written recently about the near-Goldilocks state of the stock market:
Geopolitics: The French elections on Sunday have led to a relief rally. Germany closed at a historic high again today. France closed at the highest level since 2008. But the most important factor in the rally has been earnings: European markets are higher on a combination of better economic growth and policy support. Emerging markets are also higher, for similar reasons. The percentage of countries that have seen their forward earnings estimates rise over the past three months is at its highest levels since 2009, according to Keith Lerner, Chief Market Strategist at SunTrust Advisory Services.
Earnings: U.S. company guidance for 2017 is holding up well, with the exception of oil stocks, which has been slipping as oil has dropped below $50. Half of the S&P 500 companies have seen their earnings estimates raised by analysts, the highest level since 2015, Lerner said.
U.S. economy: Today's April jobs report was a big relief for the bulls. One risk to stocks was the poor performance of the U.S. economy, which managed to generate a miserly 0.7 percent GDP growth. Traders believed that the numbers would improve in Q2, and today's numbers went a long way toward proving that assumption is correct.
Federal Reserve: Today's employment report supports the Fed's thesis that the soft patch in Q1 was "transitory," in the Fed's words. The data is good, but not too good. The Fed is essentially out of the picture. Traders are expecting two rate hikes, and nothing that has happened recently has changed that view.
Tax cuts: They are now in play.
What's this all mean? We were locked in an absurdly tight trading range for the past two weeks, just below the historic closing high of 2,395 on the S&P 500.
It means, in the words of one witty trader, that flat was the new up.
But not any more.
This was one of those rare weekends when it pays to go long into the close.
Despite weakness in commodities and commodity stocks, particularly oil, the broader stock market remains just below historic highs. There is an underlying bid to the markets.
There's a good reason for that underlying bid: the global economy is improving, and we are starting to see that in earnings. It's not just in the U.S. — even Europe is seeing an improved earnings picture.
Strategists and analysts have begun taking note. Keith Lerner, Chief Market Strategist at SunTrust Advisory Services, summed it up yesterday in a note to clients: "[W]e are seeing the most broad-based global earnings rebound since 2011."
He noted that International markets "are turning higher on better economic growth, policy support, and more competitive currencies." The percentage of countries that have seen their forward earnings estimates rise over the past three months is at its highest levels since 2009. Earnings growth is evident in both developed and emerging markets.
In the U.S., he notes, the percentage of companies exceeding sales estimates is at the highest level in almost six years. Cyclical sectors — those that benefit from an improving economy — are generally leading in terms of exceeding consensus earnings estimates.
The global rise in the stock market is not surprising: earnings are highly correlated with stock market returns. When the S&P 500 went through five quarters of earnings decline, what I termed the "earnings recession," from late 2014 to the summer of 2016, the stock market went nowhere.
But Lerner noted earnings started turning up in late summer of last year, and that's when stocks turned around (this was before the presidential election).
Moreover, the earnings trend is positive. The S&P 500 quarterly earnings for the first quarter, now at 14%, is the best in six years. Moreover, the percentate of companies beating estimates, at 76%, is well above the historical average of roughly 62%.
And it's not just buybacks that are boosting earnings: revenue growth is strong, too, up 7.2%
What about the second, third, and fourth quarter guidance? Lerner notes that about half of the S&P 500 companies have seen their earnings estimates raised by analysts, the highest level since 2015.
What could derail this earnings express? The recent weakness in oil is causing a modest (so far) downward revision in big oil estimates but is not derailing the broader market. Some kind of geopolitical shock, of course, could affect markets (North Korea is the current big threat). A major miscalculation by the Fed (raising rates too fast) might also slow the markets. And we know there is some premium in the markets for tax reform and infrastructure that might be taken out if they failed to pass something this year.
Of course, the traditional killer of earnings growth — and stock market rallies — is a recession. But Lerner and most other strategist see the chances of that happening as unlikely, at least in the intermediate term.
Recession risks are still low, Lerner said, "and we expect profits to continue to rise."
Commodities remain the weak link in the stock market rally.
On the surface, it looks an all-clear for stocks to hit new highs. Not quite.
Two issues that have been floating around for a couple weeks weakened stocks midday: China and oil. China is slowing its spending on growth initiatives. It is also tightening monetary conditions, and there is
Put these two together and you have a commodity rout:
Commodities since April 1
Iron Ore down 16.5 percent
Oil down 10.1 percent
Nickel: down 9.9 percent
Zinc down 6.7 percent
Copper down 5.3 percent
With a predictable impact on commodity stocks:
Not surprisingly, analysts have begun taking down earnings estimates for oil companies. As a result, we are starting to see oil stocks show up on the 52-week low list: Schlumberger, Occidental Petroleum, Apache, Murphy and Range Resources all joined the list today.
Despite these concerns, the overall market is just below historic highs and not just in the U.S. Europe is up about 1 percent on improving economic data, better earnings from companies like sneaker maker Adidas and oil giant Royal Dutch, and on hope French voters will elect a moderate for president when elections are held on Sunday. The German stock market closed today at a historic high.
Earnings in the U.S. have also been strong, and markets like that there has finally been some movement in Washington on tax reform.
What's all this mean? Despite the underlying weakness in the commodities market, there remains an underlying bid to the market. Traders are buying any dips, at least so far.
Oil will remain a problem, but it's not clear how long China will be an issue.
"I don't see it lasting," Brendan Ahern, Managing Director of the KraneShares CSI China Internet ETF (KWEB) said. "The policymakers want to get in front of any issues. They do not want to create a crisis ahead of the big turnover in the Chinese leadership in October."
He believes Chinese authorities will soon start putting liquidity back into the markets.
My colleague Juan Aruego, who has been tracking earnings at CNBC for many years, this morning called my attention to a little-noticed item on Apple's earnings call: the company's share count fell 66.3 million shares during the quarter. At Tuesday's closing price, Juan told me, that is a $9.8 billion drop in market cap.
It's a very important point. Apple is part of an elite group I call "buyback monsters," companies that have been aggressively buying back stock for years. Apple's shares outstanding topped out in 2013 at roughly 6.6 billion shares. Since then it has been down every year and now stands at 5.2 billion.
That is a reduction of 21 percent in shares outstanding since 2013. What's that mean? It means all other things being equal, the company's earnings per share are 21 percent higher than they would have been had it not done the buybacks.
But that's only since 2013 ... there are companies that have been doing this much longer. IBM's shares outstanding topped out at 2.3 billion way back in 1995, it's been going down almost every year since then, and now stands at 939 million shares.
Think about that. That's a 60 percent reduction in shares outstanding in a little more than 20 years.
Same with Exxon Mobil. After the Mobil acquisition in 1999, shares outstanding topped out at just shy of 7 billion in 2000 and have been going almost steadily downhill since. There's now 4.2 billion shares outstanding, a reduction of 40 percent since 2000.
Other big names have gotten more aggressive only recently. General Electric, for example, dramatically cut its shares outstanding from 10.0 billion shares to 8.7 billion in 2016, a 13 percent reduction.
I could go on, but you get the point.
Is there anything wrong with this? No, but it does lead to charges that companies are spending more money on "financial engineering" than on capital spending. It certainly does indicate that companies are at a loss on how to improve their top line, which is what will ultimately improve the bottom line. It leads to frequent complaints by analysts about the "quality" of earnings.
One final point: while all this "financial engineering" helps boost earnings and stock prices, it also serves to reduce the weight in the various indexes, particularly the S&P 500. In an era where indexing rules, it means Exxon Mobil and IBM are not nearly as influential as they used to be.
For fund flows, April came in like a lion, and went out... like a lion.
ETF flows, which have been strong all year, continued strong in April. Roughly $42 billion in net new money came in, which is roughly the same inflow we have seen every month this year. The four month total is now $170 billion, the highest level for inflows in the first four months we have ever seen.
At this pace, we could have a $500 billion dollar year for inflows, which would be a record. It also works out to roughly $1.3 billion a day for ETFs so far in 2017.
"As has been the case the last few months, this was a rising tide lifting all ships. Pretty much all risk on asset classes had strong flows," said Dave Nadig, CEO of ETF.com.
Three sectors saw particularly strong inflows:
It's that time again: May. Springtime, and time to revisit that old adage — sell in May and go away.
I've written many times about this, probably the most famous of Wall Street saws, so I'll keep this short.
You can argue about exactly why this seems to work, but over long periods there does appear to be something to it. Since 1950, the S&P 500 has had an average return of only 0.4 percent during the May-to-October period, compared with an average gain of 7.4 percent during the November-to-April period. This is according to Yale and Jeff Hirsch, who first brought this connection to light in 1986.
Sounds good, but in the past 10 years, they have refined this call by layering in two additional factors: a technical signal (MACD) and a signal based on presidential cycles.
The technical signal would get you in earlier than November 1 and keep you in longer than May 1 if the market was trending up. If the market was trending down, it would delay getting you in past November 1, and you might sell before May 1.
The other signal involves the presidential cycle: Don't sell in May in the third and fourth year of the presidential election cycle, when markets tend to outperform. The Hirsches claim that this means you only need to make four trades every four years, greatly simplifying the process.
Combining these two signals, the Hirsches' claim produces turbocharged results: an average return of a loss of 0.8 percent per year for the S&P 500 since 1950 during the May-to-October period, compared with an average gain of 9.6 percent during the November-to-April period.
For those of you who don't get the power of compounded interest, let me make it simpler. A $10,000 investment made in 1949 from simply the May 1-October 31 period would now have $4,550, a LOSS of $5,450. The same $10,000 invested in just the period November 1-April 30 would have produced a profit of $2,166,331.
That is not a typo. $2,166,331.
You can see why this hoary saw has such staying power on Wall Street.
The markets are near historic highs, and earnings are rebounding nicely. There is one fly in the ointment: Energy stocks, which as a group are down more than 10 percent this year. This, while the S&P 500 is up almost 7 percent.
It wasn't supposed to be this way. This was supposed to be the "Year of the Turnaround" for big oil, but it's not turning out like that.
The spoiler are the commodities: oil down 9 percent year-to-date, and natural gas down 12 percent. The global energy market is undergoing a massive transition, from a Middle East focus to a North American focus. It's a huge help to consumers, and a headache for big oil.
The result: the investor love affair with Energy, so evident toward the end of last year, is over. Oil stocks don't just lose on a fundamental level, they lose as a relative value play. Think about it: you have the rest of the market at or near historic highs, with energy stocks the worst performing group year to date.
Take ExxonMobil, which reported earnings this morning. The good news: they beat earnings expectations, and overall earnings more than doubled, from $1.8 billion a year ago to $4.0 billion in the first quarter of this year.
They doubled largely because oil prices improved, from roughly $31 a barrel average in the first quarter of 2016 to roughly $51 a barrel in the first quarter of 2017.
Here's the bad news:
1. The price of oil is trending down.
2. Capital and exploration expenditures are down 19 percent from a year ago.
3. Production is down: on an oil-equivalent basis, production decreased 4 percent from the first quarter of 2016.
Bottom line: they are getting less for oil than the first quarter, and they are producing less of it.
This is one of several reasons oil stocks are trading near their lows for the year.
Is it any surprise oil stocks have been for sale for months? Any surprise that every major oil index (XLE, OIH, XOP) are sitting at or near lows for the year? Any surprise investors are now asking, why should I be in oil stocks when the broader market is screaming?
Any surprise that only 3 of 25 analysts tracked by CFRA have a Buy recommendation on ExxonMobil?
How did this happen? Toward the end of last year, the analyst community bought into two ideas: 1) the reflation trade, the idea that global commodity prices would rise as the global economy improved, a bet that looked pretty good when the Trump victory turbocharged the whole idea, and 2) that oil would gradually recover due to OPEC collaboration to cut production and the relentless cutting of capital spending by big oil.
This magic combination was supposed to drive oil to $60 and beyond. With this in hand, analysts handily modeled a turnaround in oil company profits, particularly big oil. Chevron, for example, was going to go from $1.07 in profits in 2016 to $4.72 in 2017, according to Factset.
And Chevron was one of the lucky ones that still made money: most of the smaller companies were still losing money. Lots of it.
In theory, these were not crazy ideas. The global economy was getting better, and commodity prices were rising. And OPEC did cut production, and big oil did indeed cut capital expenditures. A lot: ExxonMobil went from $34 billion in capital spending in 2012 to a projected $18 billion this year.
What screwed the whole thing up, of course, was shale production. Even if OPEC continues to cut, how can oil move up when you have the enormous open faucet that is North American shale?
Here's the irony: big oil is seeing reduced production, but the shale producers are seeing increased production. Big oil is still marginally profitable, but the shale producers, for the most part, are not. Look at Whiting Petroleum: they had good operating results. But they lost money!
So why don't the shale producers just stop producing? You'll notice the rig counts keep going up. Are they just stupid?
No, they are desperate. Here's my old friend Fadel Gheit, oil analyst at Oppenheimer: "Their attitude is, 'We can't control the price, so we might as well keep producing because we desperately need the cash flow.'"
The result? Slow but steady haircuts for big oil. Chevron's expected profits of $4.61 in 2017 have now been whittled down to $4.42, and are still dropping. ExxonMobil, which was expected to make $4.21 in 2017, was at $3.88 last night and still dropping.
Expect them to drop even more.
Is there any hope at all? Sure, the bulls never go away. The big hope is that eventually oil prices will rise again, partly because capital spending keeps lagging. The decline rate requires you to invest large amounts of money to get new oil. No money investing, less production.
What about some good old fashioned M&A play? You notice we are not seeing any of that either? Here's Fadel again: "The bids and asks [between buyers and sellers] have never been wider, because a few years ago we had $110 oil, and last year we had $27 oil. Which is the real price? They can't agree."
First banks, then industrials, now big tech names like Amazon, Microsoft, Alphabet, Baidu and Intel report after the bell. I checked in with David Aurelio, who tracks earnings for Thomson Reuters, and asked what key metrics will matter. His thoughts:
Stocks have rallied this week on a combination of lower geopolitical worries (French election), long-awaited tax cuts now in play and — perhaps most importantly — earnings guidance that has generally been better than anticipated.
I am talking about full-year earnings guidance, not just first-quarter earnings reports. That guidance has been strong so far, particularly in industrials. The largest names have not only beaten guidance, but they also raised full-year estimates, including: Caterpillar, 3M, Illinois Tool Works, Honeywell, Stanley Black & Decker, Dover, Sherwin Williams, Boeing and Rockwell Automation. Other big companies like General Electric and United Technologies reaffirmed their full-year guidance.
This is a HUGE relief to the markets. Traders have been concerned because the market is expensive by historic standards (better than 18 times 2017 earnings). Analysts have been modelling notable increases in earnings for the rest of the year, based not on the Trump tax cuts but on a synchronous global economic expansion: