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There's a problem with earnings this season: stocks are trading at the high end of their trading range and are also expensive.
The failure of the Doha meeting to produce a production freeze is causing a predictable drop in Energy stocks worldwide, though perhaps not as much as market participants were talking about last week. High-beta names like Chesapeake Energy and Devon are down about 4 percent, but large oil like Chevron started down only fractionally and some have turned positive.
The big issue is, what happens to Energy stocks from here? A few thoughts:
1) The stocks have generally outperformed this year—The Exploration & Production ETF is up nearly 8 percent year-to-date, handily outperforming the S&P 500. Valuations are way ahead of themselves. Chevron, just as an example, is trading at a crazy 68 times 2016 earnings because everyone is assuming oil will recover toward the second half of 2016 and so big oil is being priced on 2017 earnings (Chevron is a more reasonable 20 times 2017 earnings). In other words—many of these stocks are already discounting a significant rise in oil.
2) How much more dilution? Several dozen Energy companies have issued more stock, the most recent of which was driller Ensco (ESV), which floated a secondary at $9.25 at the end of last week and was deemed a success. But remember: Ensco was $19 a year ago. It's pretty hard to argue that issuing stock at half the price a year ago is a victory.
3) More M&A? Maybe, but just look at what's happened to Halliburton-Baker Hughes. There's big political risk. Big oil is under a lot of scrutiny. Certainly with President Obama in the White House no big deal will get through without a fight. After November, maybe.
There's a similar problem with Industrials, which will begin reporting this week, including big names like Honeywell , Caterpillar, Illinois Tool Works and General Electric. With the exception of GE, which is flat this year after a spectacular 20% rally in 2015, these big names are up double digits:
Honeywell up 10.7%
Caterpillar up 15.2%
Illinois Tool Works up 12.8%
These stocks are rallying on two issues: 1) the lower dollar, and 2) less worry about a U.S./global recession.
But they seem to have overshot the target: most of the big names are trading at 19 or 20 times forward earnings. The problem is that the growth outlook still remains relatively weak, so we are expecting very modest top & bottom-line growth (low single digits at the very best). Throw in the fact that we are entering a seasonally weak period for the group, and we are left with the one hope that the commentary will be marginally above expectations.
But hey—that worked for banks, right? The SPDR Bank ETF, a basket of big bank stocks, rallied 7 percent last week because the news on bank earnings was less bad than feared. That could work for industrials—except they have already rallied as the banks were rallying. The SPDR Industrials ETF was up 2.5 percent last week while the S&P 500 was down fractionally.
See the problem? Stocks are trading at the high end of their trading range (near historic highs) and are also expensive (or at least "not cheap") by historic standards. It's hard to argue for stocks to break out convincingly without clearer signs of an economic breakout, which remains stubbornly elusive.
That's why so many strategists see a trading range for the remainder of the year. Hey, it could be worse. We were talking recession in February. A "solid hold" is a lot better than two months ago.
The IPO market is finally thawing out.
Exchange operator Bats Global Markets on Thursday priced its long-awaited initial public offering at $19, at the high end of the price range of $17 to $19. The company earlier in the day increased the size of the offering from 11.2 million shares to 13.3 million.
Bats faces a lot of pressure two reasons. First, it tried to go public four years ago on its own exchange but failed due to a technology glitch. Second, it is the first significant IPO in four months, one of the worst IPO droughts in modern memory. So the entire market, and the IPO community, is watching how the offer will price and how it will trade.
If all goes well, the following week will see at least three more IPOs — MGM Growth Properties, a REIT that owns some of the biggest casinos in Las Vegas, American Renal, which runs kidney dialysis facilities and SecureWorks, the Dell security spinoff.
Is there a breakout developing?
It's early yet, but the news out of China — on top of modestly better earnings from JPMorgan — has traders talking about a potential for a breakout in the markets in the next several weeks.
Why? Because China has been a major source of market volatility, and if the positive China trade data is supported by additional data that will greatly change the tenor of the China discussion, which has been relentlessly bearish for over a year.
With other sources of volatility — the Fed, the dollar and oil — also less, well, volatile — there's now greater potential for a breakout than there has been in a long time.
You can see this in the collapse in volatility — the CBOE Volatility Index dipped below 14 this morning and is near a multi-year low. Volatility ETFs like the S&P 500 VIX Short-Term Futures Index have seen heavy volume in the last few months as traders have bought volatility to bet that oil, China, the Fed, the dollar or some combination would blow up the markets (VXX offers exposure to a daily rolling long position in the first and second month VIX futures contracts).
But those bets seem to be unwinding today.
To be sure, we are not there yet. New highs have been modest on both the NYSE and Nasdaq. There are no big breakouts yet in the global markets, though the FTSE All-World Index — a basket of stocks representing the global markets — is close to its highest level of the year.
Before everyone gets too excited, there are other risks sitting on the horizon. I highlighted two this morning:
1) political risk around the U.S. election and around the Brexit debate in the UK/Europe;
2) central banks ineffectiveness. Markets were EXTREMELY nervous last week when everyone saw the yen strengthening, despite efforts by officials to jawbone it down. Kuroda's credible is clearly at stake. This is not yet an issue for the ECB's Draghi or the Fed's Yellen, but it is a blip on the horizon.
Still, we are a lot closer to breakouts than many may be aware. The big breakout — a close above the May 21, 2015, historic high of 2,130.82 on the S&P 500 — is only 50 points away. That's only a few days of aggressive trading!
The two market-moving stories this morning are banks and China.
Chinese exports were much better than expected, and imports dropped less than expected.
China trade (YOY, in dollars)
Exports: up 11.5 percent
Imports: down 7.6 percent
But this is quoted in dollars. In Asia and especially in China, everyone looks at the data in renminbi terms, and the numbers are quite a bit better.
China trade (YOY, in CNY)
Exports up 18.7 percent
Imports down 1.7 percent
On this, China markets were up strongly. There was a short squeeze in Hong Kong, with markets up there 3.2 percent. The Shanghai Composite rose 1.42 percent, and the Shenzhen was up 1.35 percent.
Oil spiked on Tuesday as Russia's Interfax news agency said that Russia and Saudi Arabia had agreed on a production freeze ahead of the upcoming OPEC meeting in Doha, regardless of whether other OPEC members participate or not.
Oil immediately spiked to its highest level since December. More importantly, it moved over the 200-day moving average for the first time since October 2014.
In a range-bound market, a breakout to new highs is a big story.
Never mind that neither the Russian nor the Saudi oil minister confirmed this story. Traders seemed to have convinced themselves that there will be a deal out of Doha.
The IPO thaw is finally here. Maybe. It's been two months since the market bottomed, but it's been nearly four months since any significant companies went public.
This morning SecureWorks, Dell's security spinoff, said its long-awaited IPO was expected to price 9 million shares between $15.50 and $17.50, valuing the company at up to $1.42 billion.
Exchange operator BATS Global Markets (BATS) is scheduled to price its long-awaited IPO next Thursday night for trading Friday, and there's a lot at stake.
First, BATS will be listing and trading on its own exchange, after an historic 2012 technology glitch that forced them to abandon their IPO. Second, the entire IPO community will be watching the deal as an indication of the health of the IPO market.
BATS has to execute the IPO and price it so investors make money. If the deal does well and the markets hold up, two other IPOs are waiting the following week: casino REIT MGM Growth Properties (MGP), and American Renal (ARA), which runs dialysis facilities.
Well, this is a bit of a disappointment. We have oil flying (up nearly 7 percent!), we have a weak dollar, we have China quiet all week, and we have a dovish Fed that traders believe have put some kind of floor under the market.
And this is all we get? The Dow Industrials up 40 points in a lackluster, average-volume session? In the past months, if oil would be up 7 percent and the dollar would be weak, we would have been up 200-250 points. What's wrong?
You can argue oil may be decoupling from the markets. Maybe. But the usual suspects that would benefit from a weak dollar are all up: energy, materials, industrials. In fact, there's more than four stocks advancing for every one declining.
So, why the crummy point action?
The Department of Labor has finally released its rules on financial advisers, introducing — in most cases — a higher "fiduciary" standard that requires brokers to act in the best interest of their clients, which may include providing lower cost alternative investments where appropriate.
Those of us who for years have been urging American investors to invest in lower-cost products like ETFs can only hope that this will be a wake-up call to those investors.
The new rules will only apply to retirement accounts, but I expect those retirement accounts to slowly —reluctantly — begin to offer lower priced funds, including lower-priced actively managed funds, as well as offering a sprinkling of ETF products.
And I hope that investors will start making more low-cost investment choices.
Lower interest rate concerns are again messing with the global markets, particularly financials. Many European bank stocks closed down 4 percent to 7 percent. Big U.S. banks are also down 2 percent or more.
The yen had another move up overnight to 108 to the dollar, a big move considering it was 113 few days ago. It's at a 17-month high against the dollar.
This is partly as a result of a more dovish Fed, but it's making life more complicated for central bankers.
After long delays, the Department of Labor is poised to release new rules Wednesday on the legal obligations of financial advisors. The new rules will likely require brokers to abide by a "fiduciary" standard — putting their clients' best interest before their own.
This is a battle about getting your financial advisor to act in your best interest. It's also a battle to lower the cost of investing, which, depending on your advisor, can be anywhere from cheap to very high.
In one sense, it's simple. There are essentially two different types of financial advisors: brokers and investment advisors. Both can sell you stocks and bonds and ETFs and mutual funds, but the standards are different.