Some weeks I wish would just go away, disappear, so we can get past them without incident.
This is one of those weeks. While the market seems placid enough, let's face some facts here: we are fraught with expectations that may or may not play out on the side of the bulls.
First, let's just deal with the setup. For weeks now we have seen group after group move up: the healthcares, the banks, the insurers, the homebuilders, the industrials, the techies and so many others. It's been quite a bull market, by any standard.
But last week they stalled out. And there are myriad stocks that look like they are topping or can't go much further without some sort of good news happening.
Worse, I see contradictions everywhere, and I see historic moves that are based on false preconceptions or an atmosphere that's too bullish for my tastes.
Let's start with what's my biggest worry: the Fed's meeting on Wednesday. Now I said last week "bring on the rate hikes." We need them. We need the Fed to stop talking about gradual rate hikes and instead focus on what's necessary, simply dropping the language of caution about its moves and instead admit that the recovery is now moving into its regular cyclical phase and the Fed has to be more neutral, as worried about inflation as deflation, wage increases as well as stagnant wages.
Here's the issue, though. Right now we think that a rate hike's a good thing, something that's going to be fine for the banks and they are the most important group if we are going to continue to march higher.
Nothing's changed on that front. We need a minimum of three rate hikes if the banks are going to further advance because I think that two in addition to the one in December, are already baked in.
But I am now ready for a backlash that we haven't seen or heard since 2006, the backlash that says if rates go higher we are going to have a real earnings slowdown and stocks are way too high for the market to handle that. We are paying way too much if we are going to have multiple rate hikes.
The negative chatter won't be manifested like that, though. It will be more case by case. For example, the housing stocks have been among the hottest sectors in the entire market. Pulte (PHM) , D.R. Horton (DHI) , KB Homes (KBH) , Lennar (LEN) , Toll (TOL) have been acting fabulously. Now let's understand each other, these stocks do not do better in a higher rate situation. They do worse. However, the analysts have all been silent during the run so far.
I could see a scenario where someone comes out and downgrades the group and frets over what prolonged rate hikes will do. I think the move would resonate and the stocks could get hammered.
Second, we have seen all of the consumer packaged goods stocks soar in the wake of Kraft Heinz's (KHC) failed bid for Unilever (UN) . If you go back in time before that bid you will see a group of stocks truly slumping both because of weak earnings and because interest rates going higher make their dividends less protective. Makes sense. If you can get 3% risk free from a good bond why would you risk getting 3% from a stock that could easily go down 10% in a couple of days. Yet that's exactly what could happen to these stocks because I don't think Kraft Heinz is going to strike as easily as it did against Unilever. That's because, post-Unilever, Warren Buffett, who is affiliated with Kraft Heinz, told CNBC he wouldn't go along with anything hostile and almost all of the companies with stocks that spiked in a collaterally positive way from the Unilever bid want to be independent. That means these stocks are all up on the hopes of something that might not happen, a Kraft Heinz strike. They could all be vulnerable. Let's compound things. Many of these companies do a huge amount of business overseas. Their estimates will have to come down if the dollar spikes on a rate hike as is expected. So there could be a second day move against this very visible group when analysts adjust numbers down.
Third, I am concerned about some of the longer-dated assets in this situation. What's a longer-dated asset? Let's take biotech stocks. They trade on the future not the current. They go up on their long-term pipelines. If you believe, however, that inflation is coming back, you will pay less for that pipeline. If the Fed signals it is worried about inflation then you will see a sell-off in these stocks. I have been through a bunch of rate cycles in my career and this is what always happens to these kinds of stocks that have a long-term payoff, out years from now. It will happen this time, too.
Fourth concern? Washington. There is now no doubt in my mind that repealing and replacing the affordable care act is going to be front and center and will block much of the rest of the agenda for President Trump. This timing, as good as it might be if you hate Obamacare, is unfortunate for those who are expecting near-term relief in the tax world. I simply do not believe that we are going to see results on this front or on the infrastructure front in the immediate future.
However, if you look at the infrastructure stocks they are trading as if we are about to see a gigantic and imminent increase in federal spending on bridges, tunnels, roads and airports. Those stocks have definitely run too much if there is no infrastructure bill. Some of the stocks with the most money overseas are trading as if that money's going to flow back at some low rate within the next few months. Again, I sense disappointment.
Fifth, there is the border tax. It's been my experience, not unlike health care, that the lobbyists and the corporate interests will not take these things lying down. Given the state of the American retail business, a state that is very precarious because of on-line and off-line competition -- we are way too overstored -- this kind of tax will be a total anathema. I believe the retailers will make a compelling case that they will have to lay off hundreds of thousands of people if this tax comes about and those retail job losses will by far overwhelm whatever jobs might flow back here from that tax. I remember when NAFTA was passed it was viewed as a way for Walmart (WMT) to clothe the country with inexpensive men's and women's apparel. It's almost impossible to believe that those industries will come back here. But what will happen is that the Walmart's of the world will have to pay more for importing goods. Many of the more marginal retailers will not be able to keep pace with a Walmart or an Amazon (AMZN) given their giant scale and ability to negotiate better pricing from overseas producers.
So they will most likely not make it. That's a real risk, not a canard. I don't care if this thing is phased in or not, the fact is that is that if you look at the retail stocks you can tell that they are signaling tremendous losses and massive layoffs. I think that's certainly a realistic case.
Finally we are going to get an oil inventory number the morning of the Fed meeting that I think will show no let up in the crude build. That's what could drive oil down to the $47 or even the $44 level we talked about last week. That, too, will be poorly perceived by the market.
So if we get an aggressive Fed stance and no economic help from Washington coupled with a border tax and an inventory build we will have too hard a gauntlet to traverse. That's why we just need to get past this week. Bulls want to tip toe through this graveyard. It can happen, just be aware that it has to happen to maintain these prices or mount any advance from here.
