Invincible, Indomitable, Unbeatable?
by Blaine Rollins, CFA, 361 Capital
U.S. equities look like a superhero right now. Bond yields plunged after the Brexit and stocks surged. Then last week bond yields suffered their worst weekly spike in three years and stocks rose. Under the surface of equities, sector rotation and leadership changes also appear to be occurring. Industrials and Materials continue to attract investors. (Do GE and MMM go up everyday?) Small caps are gaining ground versus large caps. Overseas, emerging markets are the most in demand. Even under the surface of fixed income, junk and emerging market bond demand has outpaced higher quality bonds, while interest in junk EM credit is like playing Pokemon Go in Central Park.
Why are investorsā appetite for risk rising and stocks acting bulletproof? The world is moving past Brexit worrying and focusing once again on the data and numbers. Early earnings reports look good and investors have been pleased by rewarding the stocks (of course the bar was set low). U.S. & Global economic data is coming in better than expected. Industrial commodity prices are moving higher. Demand for credit has opened the windows of financing for bond sellers and even lifted the window for a few well received IPOs to go public. It will be a very busy week of earnings and more datapoints. As you listen to the calls and read through the reports, keep an eye on markets for further rotation into the newer areas of leadership.
Last week saw the largest increase in 10-year Treasury yields in three yearsā¦
A 16.8% increase in yields off of a small base may not mean much unless you actually felt the hit of owning a 10-year bond. For those investors, it will leave a mark and they might think twice about buying that 10-year bond for a trade the next time it comes around.
Given the significant move in yields, Goldman has a good reminder of the stock sectors most affected by changes in Treasury yieldsā¦
Not surprisingly, the market saw outperformance in Financials and Industrials last week while Utilities and Staples underperformed.
(Goldman Sachs)
More broadly, last weekās winners touched the Emerging Markets, Financials, Industrials and Higher Beta areas of the market. Small Caps outperformed Large Caps. Junk Bonds outperformed. Safety and Income Equity proxies got hit.
A deeper look at where current market leadership is expandingā¦
Active managers had a rough first half. If interest rates lift while earnings and economic data exceed estimates, expect portfolios to chase risk and the recent areas which have begun to outperform and are trading at lower valuations than the stable, income equity proxies, which are not cheap.
Speaking of not cheap, the Leuthold Group has a valuation chart of the Utility sector for youā¦
So looking back to the bigger earnings releases in this Q2, here are daily stock reactions to the reports. On balance, companies have been more rewarded than hit. Expectations are low but remember that in the last month, we have had many more pre-announcements than in past quarters.
Another reason for the upward pressure in Bond yields has been the better-than-expected economic dataā¦
@LizAnnSonders: Both popular ESIs back into pos territory: ābetter matters more than goodā when it comes to stocks @biancoresearch
Confirmation of better economic data is also seen in the rising prices of industrial metals pricesā¦
We had better numbers out of one of the major railroads last weekā¦
Revenue comparisons were still difficult but costs were well controlled and the stock did well and carried the group higher. Looking back at the lows in the railroad stocks in January, it shouldnāt be a surprise that it coincided with the peak in coal inventories. So if coal demand remains on the mend and everything else is on track at the companies, one could guess where the stocks could be heading.
Some good earnings calls and presentation video quotes last week on the Energy spaceā¦
āAlthough the oil and gas sector remains stressed and reserves will continue to be idiosyncratic, overall trends have been somewhat positiveā¦In addition, outside of energy, we still have not seen contagion or deterioration in our wholesale or consumer credit portfolios.ā (JP Morgan, CFO Marianne Lake)
āEnergy is an important focus of where weāre investing today at KKR. The shale operators, they need capital. Weāve found extremely good operators down in the Marcellus field in Pennsylvania and Eagleford shale in Texas. If you donāt drill on a lease for shale within a short period of time, you lose that lease so they needed the capital in order to maintain their leases. In one case, we made 8 times our money. We think energy investing today is a good hedge against inflation. Weāre doing everything from buying non-core assets out of the major oil companies. We have a 50 person operating team out of Tulsa who have engineering expertise. Thereās a need to operate these oil properties more efficiently.ā (KKR Chairman, Henry Kravis) (https://www.youtube.com/watch?v=JYt-pP5cgrQ)
Here is your busy earnings calendar via J.P. Morgan this week:
We touched on it last week in the Twitter stream, but to highlight it again with a good chart, we have had a pretty powerful two weeks of buying in the stock marketā¦
Buying strength like that which just occurred is not common. In the past it has led to good times in equities. Could we be on the verge of another good run?
(RenMac)
To end, a picture of Nice, France as seen by Henri Matisseā¦
And Lastlyā¦
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