Last week, I said the markets look nervous.
While there is definitely some strength underpinning the post-election rally, and the path of least resistance is up, we're kind of stuck at the moment, waiting as the Trump Train lurches toward inauguration.
Right now, there isn't much to do but sit back, watch some confirmation hearings, and see how this whole thing shakes out.
In the meantime, you have been offering up some great questions and comments on Wall Street Insights & Indictments.
Today, I want to give you the megaphone for a bit, and answer some of your biggest questions and sharpest comments.
Q: Hi Shah, You may well be right, but my "yes, but" brain raises these points:
1) Yes, the Fed "printed" a lot of money, but my understanding is that one of the reasons it was so ineffective is that most of it ended up in bank reserves, and the banks didn't want to lend it.
2) The main impetus of buybacks, i.e. the QE money that did get out there, has ceased, and interest rates are on the rise.
3) There are many ways that things can go very wrong with Trump at the helm. - Noah
A: You're right, Noah. The "printed" money initially all went towards backstopping the big banks. They needed a way to get capital and to get some mortgages off their books, that's what the initial printing was all about. Then it became about making them profitable, making the cost of money zero so they could buy Treasuries, mark them up, and sell them to the Fed for a profit, over and over. Banks couldn't lend even if they had demand, which they didn't. When demand reappeared, slowly, they were reluctant to lend at such low rates. Eventually they were made profitable again so they could lend.
Quantitative easing money didn't go to buybacks. It was how the Fed kept rates at zero and flushed up the banks. Because money has been so cheap, companies could borrow to buy back shares. Because there hasn't been much growth or product demand to speak of, they haven't had to invest in plant and equipment and used cash and borrowing for buybacks. Rising interest rates, unless they spike, won't change the buyback story much. It's still the quickest way to improve earnings (financial engineering).
There are lots of things that can go wrong with Donald Trump at the helm. There's no question about that. But I'm optimistic he'll balance his campaign rhetoric with prudent compromises, hopefully advocated by his cabinet.
Q: Good commentary Shah - your forecast sounds bullish, maybe too bullish in the next little while. We're near 20k on the Dow and a tab under $20 trillion in debt (good round #s for correction?). And look at the huge ratio gap between the 10-yr and s&p. I too think a Trump Presidency will be great for our markets, but I think we have to go quite a bit lower first. That's why I moved back into gold/silver stocks last week. Best regards - Stu
A: While we're never out of the woods when it comes to a downdraft or a correction (for all the reasons we know are out there, including the debt), the market wants to go higher. The way it's acting, it could slip at any time, but it doesn't. It just backs off and hangs out. Then it tries to rally again.
That kind of sentiment, the desire to put money to work, is what is preventing the market from any meaningful selling in the face of not being able to make still higher highs. So far, that's fine. Your scenario for going quite a bit lower is probably rightfully predicated on some of the other "gaps" out there, like market valuation against still unimpressive earnings. If we don't see a meaningful improvement in Q4 earnings (and I'm NOT optimistic they will be up 6%, like the Street expects), we could see some profit-taking - I agree with you on that.
The question then is, how low could we go before buyers who missed the last couple of rallies come in?
If Trump makes headway with tax cuts, overseas cash repatriation and stimulus, the markets will jump right back to those higher highs.
Q: We did the thing Shah proposed prior to the 30's [Trump Can Deregulate the Banks Without Crashing the Economy - Here's How] and ended up far worse. The Fed is necessary, but I think the other ideas would work. - BD
A: Actually, BD, we didn't do anything different prior to the 30s. The Fed was making money easy then, teeing up the market crash and then tightened at the wrong time, which caused the Great Depression (along with tariffs).
The problem with the Fed is that it is so often flat-out wrong, not just late on making the right moves... if it even does make the right moves. It just makes sense in our computerized world that we swap the emotions and politics of the Fed and the interest of its crony capitalist owners for a mathematical model that raises and lowers rates based on a wide-berth formula we all understand. There'd be no guessing, only a clear path against which investors and businesses could make decisions.
Q: Is consumer confidence going up? Based on what? The "Artificially propped up" stock market? Sure, banks have boomed and have had consulting meets with Trump. We can most likely just go ahead and call them bribe meetings. And where does this 3.2% growth number come from? Another manipulated set of numbers from the govt?
I will be stepping aside of it all until the end of January. Hold your cash, hold your gold and silver, and wait for Humpty Dumpty to fall. - Rick
A: It's not a bad idea, Rick, to step aside in January. It's unlikely you'll miss much more than a 5% move if everything goes right. It appears that consumer confidence as well as investor sentiment are going up, partly because they've been held back for so long, and there now looks like a business-friendly president and administration coming to push economic growth.
I'm laughing at your "bribe meetings" comment, because you are so right, it shouldn't be funny.
Q: You've got a primary reason for stock market expansion correct - up until now, that is.
Yes, there's been a lot of easy, addictive credit, and corporations have binged on borrowing and share buybacks. But did we miss the Fed raising rates in December, and promising more of the same for 2017?
Corporations have already maxed out on borrowing, and the slightest rise of interest rates sounds the death knell for any more such buyback activity. They probably won't be able to service what they've already got. To expect a continuation of what we've seen is fantasy.
True, the Fed tends to blow hot air on their rates usually, but in this case they've got an incoming president with a real strained relationship with Yellen. A contracting market and struggling economy just as his term is getting started would please the liberals on the Fed. Also the Trump cards- yeah, that requires Congressional action, and I'm not so optimistic about that either. I think the government will be dysfunctional for some time. - John
A: I hope you're not right about the Trump government being dysfunctional for some time, John. If that's the case, my bullish stance will be unjustified.
I'm not worried about the Fed, and you shouldn't be either. Until we see sustained inflation way above Fed targets, it's not moving much. Until we see economic growth way above its expectations, it's not moving much. The path for higher rates is before it and us, but it will absolutely be gradual - very, very gradual. It won't kill any economic growth after saying it wants the economy to run "hot" for a good while. Why would it? Higher rates, meaning the fed funds rate getting up to 2%, is no big deal. Even at 3% (which funds could only get to if the economy's firing on 12 cylinders and is unlikely), that's not historically an impediment to growth at all.
As far as the market rising, you're right that a lot of that has been from buybacks. That's not going to stop either way. If we backslide in terms of economic growth, buybacks will be the only game worth still playing. If we get tax reform, repatriation, and stimulus, more cash will flow to corporations, which they won't be able to put to work in capex right away. So that will go to buybacks, again and again. That's the big bid under the market right now, and I don't see that changing. It's become something corporations do, like how they used to make things and grow themselves.
That's all for now.
But if you have a question or a comment, if you like what I have to say, or if you hate everything I have to say, put a note in the comments below.
Or you can join me on Facebook and Twitter by clicking on these links.
Sincerely,
Shah
The post Readers' Questions That I Couldn't Help but Answer appeared first on Wall Street Insights & Indictments.
About the Author
Shah Gilani boasts a financial pedigree unlike any other. He ran his first hedge fund in 1982 from his seat on the floor of the Chicago Board of Options Exchange. When options on the Standard & Poor's 100 began trading on March 11, 1983, Shah worked in "the pit" as a market maker.
The work he did laid the foundation for what would later become the VIX - to this day one of the most widely used indicators worldwide. After leaving Chicago to run the futures and options division of the British banking giant Lloyd's TSB, Shah moved up to Roosevelt & Cross Inc., an old-line New York boutique firm. There he originated and ran a packaged fixed-income trading desk, and established that company's "listed" and OTC trading desks.
Shah founded a second hedge fund in 1999, which he ran until 2003.
Shah's vast network of contacts includes the biggest players on Wall Street and in international finance. These contacts give him the real story - when others only get what the investment banks want them to see.
Today, as editor of Hyperdrive Portfolio, Shah presents his legion of subscribers with massive profit opportunities that result from paradigm shifts in the way we work, play, and live.
Shah is a frequent guest on CNBC, Forbes, and MarketWatch, and you can catch him every week on Fox Business's Varney & Co.