Quantitative Tightening vs the S&P500 And Other Charts From The Week That Was
Those that follow my personal account on Twitter will be familiar with my weekly S&P 500 #ChartStorm in which I pick out 10 charts on the S&P 500 to tweet. Typically I'll pick a couple of themes and hammer them home with the charts, but sometimes it's just a selection of charts that will add to your perspective and help inform your own view – whether its bearish, bullish, or something else!
The purpose of this note is to add some extra context beyond the 140 characters of Twitter. It's worth noting that the aim of the #ChartStorm isn't necessarily to arrive at a certain view but to highlight charts and themes worth paying attention to.
So here's the another S&P 500 #ChartStorm write-up!
1. The Trendline and the Moving Average (again): For the third week in a row is the infamous trend-line and moving average (200-day) chart. Again you could forget the moving average and draw a line around the 2575 mark, but the key point is you have some clear lines of support and resistance, and a breakout looks imminent. Again, the direction it breaks will likely set the tone for the subsequent major move, so it's a case of not trying to impose your view on the market but waiting patiently for the break, and listening to what price has to tell us.
Bottom line: The S&P500 is yet to break either way.
2. Quantitative Tightening vs the S&P500: One chart on the bearish side that might take some by surprise is the quantitative tightening vs S&P500 chart. The Fed kicked off passive QT last year, initiating its plan to progressively increase the pace at which it ceases reinvesting principal from maturing bonds (so reducing its balance sheet and reducing purchases). Already the reduction in holdings of treasuries has been US$70B, and all going to schedule that number could rise to $280B by the end of the year, as is scheduled to raise the pace of QT to $50B per month by October ($30B in Treasuries and $20B in ABS). Anyway, if you thought quantitative easing was a tailwind for stocks on the way up it stands to reason that it will be a headwind on the way down. So this will be one to watch and a risk to be mindful of.
Bottom line: Quantitative Tightening is well underway, and a likely headwind for stocks.
3. Positive Earnings Surprises: Back onto the bullish side, this chart, shared by Liz Ann Sonders of Charles Schwab shows companies are beating earnings estimates by a record pace. I find this one interesting, because as we know (the next two charts show) earnings estimates have been surging, so it seems that companies are actually beating against progressively higher expectations. I guess the issue with this is that people may begin to ratchet up their expectations as a response, which could set the path towards disappointment against progressively higher expectations. But for now, on the earnings side, things look pretty decent.
Bottom line: Companies are beating earnings estimates at a record pace.
4. Earnings Estimate Progression: The next chart shows the path of earnings estimates, courtesy of Jurrien Timmer of Fidelity. The first thing most will notice about this chart is how that conspicuous blue line bucks the trend of the last few years where expected earnings start out high and then get progressively wound-back as the year goes on. This time estimates have received a big shot in the arm from tax reforms, and as the previous chart suggests, analyst may even still be underestimating the impact of tax cuts and repatriation at a time when the domestic and global economy are running at a solid pace.
Bottom line: Earnings estimates are rising – bucking the trend of the past few years.
5. Long Term Earnings Growth Expectations: On the topic of earnings expectations, this curious looking indicator shows the path of long term earnings growth expectations. While I'm sure there is a lot of variables and work that goes into the consensus estimates which make up this indicator, looking at the historical path, it seems to be more of a sentiment indicator than anything! At the height of the dot com euphoria long term growth expectations reached into the blue skies of the “new economy”, and at the depths of the great recession and financial crisis plunged into morose visions of depression and then the next buzzword “secular stagnation” accompanied it to new lows – only to be lifted by reflation and now tax cuts. So while it looks very good, and the tax cut effects are very real, you can't help but wonder if this may be a contrarian indicator…
Bottom line: Long term growth expectations are approaching dot-com euphoria levels.
6. Earnings Calls – ESG Chatter: On the topic of earnings reporting, this interesting chart shows the shift in speech around “ESG” (Environment, Social, Governance) matters. Investors and companies are progressively waking up to the importance of the ESG angle, which captures a lot of potential risks (and benefits for those with superior ESG ratings) which tend to lie outside of the financial statements. It only takes a single scandal to vaporize shareholder value and brand goodwill, so it's yet another thing investors need to be across.
Bottom line: ESG talk is growing.
7. US IPO Activity – From Boom to Bust: The next 4 charts focus on the mystery of the disappearing IPO. After the booming pace of IPO activity in the 1980's and 1990's US IPO activity has slipped to a more stagnant pace. Among the rationale postulated is greater regulatory burden, greater access to all types of financing (thanks QE?), greater prevalence of VC and PE, greater incidence of companies opting to stay private, lower number of startups, less foreign companies coming to market, and more M&A. It's an interesting trend, and one that has a big impact on the investment landscape.
Bottom line: US IPO activity has slumped to a pace well below the boom-time 80's and 90's.
8. Listed Companies vs Investment Funds: Interesting trend here – the number of listed companies has halved while the number of US equity investment funds has risen 4 fold. I speculated that this could be one contributing factor to the fall in IPO activity – a sort of crowding out effect as retail investors opt for accessing the market through an investment fund rather than individual stocks. Could be way off, but a very interesting trend nonetheless.
Bottom line: Listed companies have halved vs 4x growth in the number of investment funds.
9. Failures and Startups: One key trend which may explain some of the drop in IPO activity is the decline in the startup rate. Less startups mean a smaller potential pipeline of companies for future IPOs. It's a curious trend, and not only has the start-up rate been in decline, but the failure rate has also slowed through time.
Bottom line: A lower pace of startups may be one reason why we are seeing less IPOs.
10. Public vs Private Companies: Final chart shows the contrasting trend for listed companies vs total number of firms in America. There is a clear disconnect here, and I think one key reason is the rise of private equity investing (among other things). Companies are opting to stay private or get taken private by PE firms. M&A is also obviously going to be a big contributor here too. But either way, there is a clear voting with the feet going on here, and this trend echoes what we saw in the decline in US IPO activity.
Bottom line: It seems more companies are staying/going private.
So where does all this leave us?
This week there's probably 2 main groups of charts
1. Tactics and Earnings
In this there was the 2 key lines of support/resistance, the headwind of QT, and the uptrend in earnings and the beating of ever loftier earnings expectations.
2. IPO Trends
On the slump in IPO activity we saw the rise of investment funds vs fall of listed companies, the decline in startup activity, and the preference for private.
There's a lot to be said about the trend of declining IPO activity, and we can clearly trace out several key reasons for this decline. It's important to keep these trends in perspective as they have a material impact on the investing landscape. As for the shorter term dynamics, it's a continued progressive push and shove between bullish factors (e.g. solid earnings growth), and bearish factors (e.g. the progressively tighter/less easy monetary policy settings), and we can see this tension play out in the first chart. It remains to be seen who will win out, and there will likely be some false starts in both directions as the battle between bulls and bears progressively descends into trench warfare.
See also: Weekly S&P500 #ChartStorm – 6 May 2018