Given the aggressive rise in markets as we closed 2019, even parabolic in some cases, most
tactical trading indicators showing extreme greed and complacency and most traders
expect to see selling in the new year. Low and behold, not only stocks but most asset classes
like gold, dollar, bonds, all were well bid as the markets re-opened this week after the
It is hard to pinpoint a theme when volumes are light and most are still away at the
beach before hitting their desks in earnest next week, so the moves need to be taken with a
grain of salt. Stocks like Apple $ (AAPL) , Microsoft $ (MSFT) and Advanced Micro Devices $ (AMD)
constantly make headlines as the former breached the $300 mark for the first time ever. To
move a $1.3 trillion by nearly 90%+ in one year is a feat in itself. Especially in a year when
its earnings were downgraded at the start of the year.
Leaving the technology sector aside, as analysts debate how to value the companies as WACC (working average cost of capital) seems to be in dispute especially in this environment, and these companies hold record amounts of cash, the entire U.S. market closed up 30% purely on multiple expansion alone.
All thanks to the Fed's drastic U-turn in September, when they feared yet another Y2K or 2008
Lehman crisis about to unfold, so flooded the market with tons of liquidity to kill the problem. They succeeded, as term repo rates at the end of the year were trading around 1.5% and even banks demanded less in overnight and term auctions as they seemed to have their coffers full of liquidity. Hats off to the Fed and Powell for averting yet another crisis and exploding markets higher across the board as they signalled that rate rises are nowhere on the agenda. But now what?
The answer lies in the direction of the Fed's balance and their open-ended market repo operations and Treasury buying program. Since mid-September, the Fed has actively injected $237 billion via temporary repos and $147 billion in not-QE QE Treasury bill repurchases. In addition, the Fed has vowed to backstop the repo market with $500 billion in liquidity between mid-December through middle January. If all this is used, then the Fed's balance sheet would reach $4.5 trillion -- past post-GFC levels and new all-time highs. As of right now, the Fed is expected to keep this not-QE QE going until Q2 2020. Until then, the markets and risk assets will constantly have a bid underneath them as global rates move closer to 0 and inflation and growth start to pick up.
Tactically speaking, one can argue that at this very point, we could potentially see a bit of a modest pullback, but that is all it will be -- judging by put call ratios at extreme complacency levels as most funds have not rolled over their put protection, instead buying even more calls to play the upside as they suffer from FOMO. The Fear-Greed Index sitting at 97 is another tactical indicator, along with most sell-side houses calling for yet another 2019 repeat in 2020 of 20%+ gains with nothing that can go wrong. All this implies that January could be a bit rocky as the upside calls expire worthless through middle of January and a rally ensuing after that.
During the last few weeks of December as stocks reached new highs, gold started rearing its
head and broke higher towards $1540. This is a rather strange move as usually gold tends to go in
opposite direction from stocks, and fall -- especially if real yields were to rise. And volatility has
shown signs of a pick up as well. This past week has seen tensions rising again between the U.S. and Iran, with oil price surging 4% this morning, perhaps the Fed might get the inflation it wanted sooner than expected.
It is important to keep the bigger picture in mind, and that is one of reflation as the Fed, along with all the 50 central banks, have cut rates over the past six months to try to jump start global economic growth. We are in the show-me-the-growth phase, which will keep a bid under select commodities like oil and copper. But keep an eye on the Fed's balance sheet and its non-QE QE operations. Until that stops, the market can and will continue grinding higher.