As the first half of 2019 comes to a close, equity markets ranging from the U.S. to China are up between 10%-20%. Before we start cheering, it is important to remember this rally just got the market back to the levels prior to the horrendous correction in the fourth quarter of 2018. In a nut shell, markets have been flat (as measured by the SPDR S&P 500 ETF (SPY) ) to down around 10% (as measured by the iShares MSCI Emerging Markets ETF Emerging Markets ETF (EEM) ) since 2018.
It has been and is truly a trader's market, not an investor's one.
Will it change any time soon? Hardly. Usually when markets have reached peak economic growth and are towards the tail end of their expansion, they are vulnerable to such extreme fluctuations between ultra-bullish to uber-bearish, as witnessed over the past one and a half years. Every time a theme played out, it suddenly reversed and vice versa; strategies have been shifting month on month that usually take years to play out.
The one market that has been consistently up has been the U.S. bond market (as seen with the iShares 20+ Year Treasury Bond ETF (TLT) ), especially since Q4 2018. This market has been trending in just one direction -- up.
Thanks to central banks around the world diligently pursuing quantitative easing -- just because they don't know what else to do to kick-start economic growth -- and even the U.S. Fed ever ready to maintain its support by holding off on raising rates, yields are trading at record low levels. Today, we have about $12 trillion worth of global bonds yielding negative yields. As an example, a German 30-year bond is trading at -0.28%, which means you are lending money to the German government and paying them to borrow from you. It seems incredibly absurd.
The U.S. central bank has been one of the only central banks that attempted to raise interest rates in 2018, following the past decade of easy monetary policy. It was a rather feeble attempt to rid the world of the excess free money. Every time there was a hiccup, the Fed held off and started talking dovishly. The market can be forgiven for adding to risk assets, as they know the Fed will keep printing money -- pass the problem of the bursting of the debt bubble to the next chairperson. The truth of the matter is that they themselves do not know how to get themselves out of this hole (bloated balance sheet) that has grown over the past decade.
The ECB has been in perennial decline. Mario Draghi has done a superbly phenomenal job of just keeping the taps open on free money. Regardless of all that free boost, the economy has failed to grow. Look at Deutsche Bank, a prime example of their failure, which did not make any money at all but just built more and more non-profit derivatives. Now they want to "restructure" the bank and offload 50 billion euros worth of poorly performing assets into a new entity. Insanity can be defined as doing the same thing over and over again in the hope of yielding a different result.
History seems to repeat itself and investors and markets never seem to learn.
The latest frenzy has been Bitcoin, which, after sinking to its lows of $3500 in January 2019, has now shot up to $10,000, a 285% rise in just six months. Bitcoin has seen massive tops and lows, but the most recent surge has come from the belief that central banks have lost control of the monetary system -- and rightfully so.
With loss of confidence in Fiat currencies as central banks (BoJ, ECB, Fed, etc.) around the world are set on a path to devalue their currencies, it is no wonder that cash has flown to Bitcoin, another source of alternative safe haven flows outside of bonds and gold. Given the U.S./Sino trade war ,with the Chinese yuan devaluing as well as tariffs imposed on goods exported, capital there is trying to find an outlet ,as well. It is beyond me to understand what the true "fair value" of Bitcoin is, but from a macro flow perspective, this seems to make sense.
Would I be chasing it today? The pure crypto bulls talk about supply falling less than 50% in less than a year. Call me a cynic, but this was still the case back in 2018, yet Bitcoin fell 85%. Surely there is more to it than just "fundamentals."
We are on the cusp of an economic, if not an outright, war potentially between the super powers, with equities at close to all-time highs, copper and oil rangebound since 2018 due to oversupply and falling demand, gold back to $1400/oz.
So where is the opportunity going into 2H 2019?
It boils down to just one thing. Investing is all about risk vs. reward. Right now, investors are not being paid to be long bonds here (even if a recession does ensue, it is more than priced in). One can argue the extent of bearishness is overdone -- and those brave enough could go short U.S. Bonds with the TLT ETF, as the Fed disappoints. Equities are facing peak profit expansion and a rising cost of labour with earnings trending lower, not higher. Valuations alone will not justify being long. With China showing extreme signs of a slowdown and slowing indicators, commodities such as copper and oil seem to be capped at best (barring an invasion on Iran and a full-blown crisis in the Middle East).
As Trump and Xi Jinping are set to meet at the G-20 on June 28, the market holds a glimmer of hope of some positive news. If the U.S. markets are holding up, there is no way Trump will hold off on flexing muscles -- and surely Xi will not give in to Trump's demands of changing domestic policy. Perhaps at best a truce is called to carry on further negotiations with the odds around even of escalated tariffs on the next $300 billion worth of goods.
It seems like the prudent choice across the board is to be in cash. Holding cash does burn a hole in one's pocket, but when asset classes collapse 10%-20%, as they did in Q4 2018 and May 2019, one would look like a striking genius ready to pick up the pieces when they fall.