On a gloomy Christmas eve one year ago the stock market had completed a 3 month correction into a panic low of more than 20%, equaling its largest decline of the past decade. After a tremendous rally in the first and a fourth quarters of 2019, the pulse of the stock market has completed a rebound from cardiac arrest a year ago to an adrenaline junkie today. Despite a lack of earnings growth this past year, stock investors were buoyed by the increasingly accommodative rate cutting policy of the the Fed and even more so by drawn out expectations of a China Trade Deal and reversal of Trump’s Global War on Trade. Trump was masterful in manipulating the emotions of Wall Street while staying unpredictably hot and cold in dealing with China, Canada and Mexico over trade. Throughout 2018 and 2019 when the Tariff Man escalated the trade wars, he was only speaking to those countries, not investors. By contrast when the President talked nice about trade prospects, he was only messaging stock investors and voting consumers, not his adversarial trading partners. Whenever his harsh trade rhetoric had the unintended consequences of frightening investors, he would just make up another nebulous comment that a trade deal with China was getting close. One year ago our primary sentiment gauges in the chart below were exhibiting extreme pessimism. Today’s gauges are at the polar opposite showing extreme overbought optimism. Historically, this indicates that further gains in stocks will be difficult over the next couple of months without a 5 to 10% correction to remove some froth.
The longer term picture is of a Bull market approaching 11 years old, which is over a century in human years. The rare longevity of this Recession free equity Bull market is in the eyes of the beholder as there continues to be economic slowdowns and market corrections roughly every 3 and a half to 4 years. These periodic dips in normal cycles would have been labeled Recessions and Bear markets. However, the extraordinary trillions in global stimulus by central bankers combined with a demographically induced full employment and commensurate consumption trends have tamed the business cycle. The aging demographics of the Western World has created a curse with a boom in retirees spending down their wealth and burdening society with rising medical needs. However, counteracting this headwind to the economy (GDP) with these boomers leaving the labor force is a secular worker shortage causing full employment and strong spending with low risk of job loss. Furthermore, this long term labor shortage constrains economies from bursts of rapid GDP growth or overheating which reduces the risk of credit tightening cycles or Recessions. The Bull market in stocks continues to react to the milder cousin of the Recession, known as the “slowdown”. Using the Eurozone as a proxy for global growth it can be seen below that our US stock market, as represented by the Dow, has just completed its third major corrective phase since 2009 coinciding with changes in the US and world economy. We expect GDP and lagging economic indicators will turn up in the first half of 2020 to catch up to the anticipatory move higher in stocks. Assuming this breakout in equities remains in force, along with a global rebound in GDP, we would expect the next cycle top in GDP and stocks to arrive near the mid 2021 to early 2022 time frame.
The 2020 outlook warrants overall optimism due to major economic cycle lows that should be turning up along with the removal of major uncertainty barriers due to the sudden climax of major Trade Deals with Canada, Mexico and China. Our major medium term upside targets identified in mid-October remain in force, though short term the markets are very overbought. Prices may push higher into late January into a short term crescendo coinciding with the January 15th Phase One Trade Deal signing with China. Following a January topping phase we suspect there will be a corrective phase for weeks to digest the gains and excessive investor euphoria. SP 500 Index 3283 to 3300 continues to be our top end target zone for the breakout from last October. Any trend continuation beyond 3300 SP could create a running market where consensus shifts from excessively positive to short term caution, allowing for continued gains as occurred in 2017.
There will be more details about our 2020 investing themes in a future January report, but in brief we favor staying invested in information technologies, but adding stocks based on our global industrial and financial GDP rebound along with a lower Dollar motif. Such themes include stocks and commodities related to inflation such as Gold, Aussie and New Zealand Dollars, Soybeans and Hogs. The many false alarms throughout 2019 on the NAFTA II (USMCA) and a China trade deal raised our expectations prematurely that the investment themes were already shifting. Now that these deals are being signed, businesses around the globe can relax their capital expenditure and inventory restrictions. In March 2017 it took several months after Trump’s election before the New Order flow kicked into high gear and jump-started idle factory capacity. We’ll see if this Spring exhibits a similar response in our industrial and financial economy.