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The state of the markets as earnings season begins: are we really overpriced?
Earnings season begins this week in earnest, with reports from Bank of America, IBM and Visa, among others. But there is a growing chorus of voices insisting that the market is topping out. The worries revolve around four main complaints: 1) The bull market is eight years old, few bulls have lasted longer and it is reaching the end of its lifespan, 2) The Fed will have a tougher time than anticipated managing the reduction of its balance sheet and increasing rates, 3) Political developments (lack of progress on tax cuts) are already slowing the advance of the markets and 4) The stock market, particularly technology, is overpriced.
Let's just tackle the idea that the market is somehow overpriced. Stocks are at historic highs because earnings are at historic highs and the global economy is improving. It's that simple.
But is the market overpriced? The most important determinant of stock prices is forward earnings estimates. According to JP Morgan, the forward price/earnings ratio for the S&P 500 is 17.5, which is slightly expensive but well within historic norms. The 20-year average is 16.
Even the complaint that technology stocks are too expensive doesn't ring true — as a group technology stocks are below their historic average P/E. Thee forward P/E is 17.9 versus the 20-year average of 20.8.
Amazon is serving notice to retail IPOs.
The announcement today that Amazon would be entering the meal kit delivery business has hammered competitor Blue Apron for another 10-percent decline. It seems like a long time ago, but the company only went public a little more than two weeks ago at $10. It dropped below that on its second day of trading and has been pretty much straight down since then. It broke below $7 this morning.
Wait a minute: Didn't we all know that Amazon was going to get into the meal delivery business? We talked about it leading into the IPO, and particularly after the Amazon-Whole Foods announcement. Everyone knew about this, right?
Apparently not. Down 10 percent on heavy volume tells me someone didn't get the memo. Or they weren't listening.
So why are they all trading down Friday?
There's two issues: fundamental and seasonal.
First, the soft economic data we saw Friday — retail sales, but particularly the Consumer Price Index — clearly lowered the chances for a Fed rate hike later in the year. That brought down Treasury yields, which is lowering the chances for increased profits from one of the primary profit centers for banks — interest income.
Less well-known is a seasonal phenomenon: Banks tend to trade up in the month before JPMorgan's earnings report, trade slightly down on the day of the report and are generally flat in the month after.
Here are the results for banks (represented by the SPDR KBW Bank ETF KBE) since 2010 in the month before JPMorgan reports earnings, the day of, and a month after:
Banks and earnings
One month before JPM: up 1.0%
Day of: down 0.1%
One month after: down 0.3%
Note that even a month after JPMorgan reports, banks tend to be down slightly (down 0.3 percent), while the S&P 500 is typically up 0.5 percent.
Bottom line: Expect some downward earnings revisions on second half bank earnings around lower interest income, but factor in the seasonal weakness as well.
Disclosure: NBCUniversal, parent of CNBC, is a minority investor in Kensho.
Rates are rising all over the world. In the last couple of weeks, the U.S. 10-year yield has risen to an eight-week high, Germany's 10-year bonds are at 18-month highs, Japan's are at five-month highs, France'sat seven-month highs.
It's moving stocks. Banks are on the rise. The main bank ETF (KBE) is at the highest level since March. Interest rate sensitive sectors like real estate investment trusts have been lower.
What's going on? Investors are trying to get ahead of a change in central bank policies around the world. We have had 10 years of unconventional policies that are slowly coming to an end. The Fed is already raising rates, and while neither the Japanese nor the ECB are raising rates, it's clear they are considering reversing their policies of buying bonds and stocks, in the case of Japan.
Is this a recipe for disaster? Not at this pace, but it's being watched carefully. The rise is not very great. Even the 10-year at 2.38 percent is only 20 basis points higher than a few weeks ago. That's a very modest rise, and the cost of funding is not changing prohibitively. It's a sign of strength that central banks are more comfortable with higher rates.
It's true, nobody is raising rates aggressively. This move is in anticipation of something more aggressive happening. The Fed minutes, released Wednesday, clearly indicated the Fed is not wedded to an aggressive rate hike schedule. And what about those who say raising rates, even if modestly, when the economy is only fair is a bad idea? Is 2.25 percent GDP growth great? Not really. But it's better than the 1.75 percent we've seen recently. And European growth prospects certainly have improved.
Fed watchers are hanging on how the Fed characterizes one word in its statement Wednesday—and that is inflation.
Mining stocks led the S&P 500 higher on Tuesday on strong quarterly results and a surge in copper prices.
To see Anthony Scaramucci running the communications operation has served as a bit of a shock to those on Wall Street.