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New Year’s optimism generally dispels quickly once the hangover is over. But in 2018, high hopes have survived the regular beginning of the month ISM surveys of manufacturers’ supply managers. They are globally strong, and most interestingly they are now led by Germany.
All ISM or PMI surveys are set so that 50 should represent the division between expansion and recession, and this enables comparisons between countries. The spread of Germany’s manufacturing PMI over China’s since the indices’ inception in 2004 is very interesting:
Germany’s lead in industrial optimism is now as great as it has ever been, at a level only previously seen during the restocking boom that followed the Great Recession. The arrival of the eurozone as an extra alternative motor for the global economy last year had much to do with the surprising strength of markets. It looks like this could continue.
The most widely followed manufacturing PMI for the US comes out on Wednesday. Here is the same exercise comparing the Markit’s German PMI with the US National Association of Purchasing Managers PMI. There is a less clear pattern, but again the recent strength of Germany is clear:
Leadership by the eurozone is, if anything, good news for the US, as it means health for one of its most important markets. European strength helped drive a further fall for the dollar against the euro on the first day of trading for the year, which is further good news for US multinationals. On a trade-weighted basis, it is as low as it has been since September, and testing lows for the Trump presidency:
For another sign of optimism, look only at the strength of commodities, led today by oil. Bloomberg’s broad commodity index is enjoying its strongest rally in a year:
For the time being, commodity prices are still not quite back to where they were at the beginning of last year. Meanwhile, bond yields rose sharply around the world, but remain comfortably within recent ranges. This is all about as positive as it gets for risk assets.
The question, which will need to be repeated ad nauseam over the next few months, concerns central banks and the bond market. For now, Goldilocks conditions — not too hot or too cold — are still persisting. But how long will it be before economic strength pushes bond yields and interest rates to levels that begin to weigh on share prices? That, for now, is the biggest question facing markets in 2018.
2017 was a great year for the world stock market, particularly if you denominated it in dollars. Of this there is no doubt. The S&P 500 gained some 18 per cent (and topped 20 per cent once dividends are included).
What does that tell us about this year? Almost nothing. There are 20 prior examples of calendar years this strong, which is not enough for a statistically robust sample. Half of the time, the S&P managed another gain of 10 per cent or more in the next year. But 25 per cent of the time, it fell. This handy chart is from Jonathan Golub of Credit Suisse:
Bitcoin: A Macho Mania
Trading has been relatively calm in cryptocurrencies in recent days. But it does look clear that one of the prime drivers of the cryptocurrency rally is testosterone. Duncan Stewart of Deloitte Canada came up with the remarkable statistic that more than 97 per cent of bitcoin is owned by men:
The statistics come from coin.dance, which offers “community-driven bitcoin statistics and services”. Mr Stewart’s post was early last month, before the extreme trading in the last few weeks of the year, but the latest numbers still hold.
The financial and investment world is, of course, male-dominated so it is no surprise to see that a majority of interest in bitcoin comes from men. However, women do make up considerably more than 3 per cent of investors, and of the movers and shakers in Wall Street, Silicon Valley and the City of London. This gender imbalance is extreme, and suggests that the mania is being driven by the good old-fashioned male competitive urge. Duncan Stewart’s comments on this make great sense to me:
As Cambridge research fellow John Coates put it: Market bubbles may be a male phenomenon.
It isn’t “proof” that Bitcoin or other cryptocurrencies are bubbles, of course. But I will be really serious here. The fact that Bitcoin is up 400% this year and thousands of percent from a few years ago doesn’t tell me it is a bubble: all kinds of securities go up that much or more, and retain their value over the long term.
But the fact that 95% of the investors in BTC and other cryptocurrencies are men is a really big red flag for me. I cannot think of any security, currency or asset class in history that shows that extreme a gender divide and has been sustainable.
Happy New Year
Whatever else is driving the economy, or the markets, corporate optimism in the US is palpable. It is also meaningful.
With the new year, the reporting season for the fourth quarter will soon be upon us. It tends to be a particular moment of truth as it also involves releasing full-year numbers, which tend to be audited and regulated more strictly. If CEOs make themselves available for comment in any earnings call, it tends to be this one.
And judging by their behaviour, they are genuinely optimistic about the future. This may be because of the weak dollar, deregulation under President Trump, the prospect of a tax cut, or global growth, or all of the above, but it seems to be real. Generally, companies revise expectations downwards as earnings announcements approach. This makes it easier for them to generate a positive surprise. But at present the earnings revision ratio (meaning the proportion of forecasts going upwards divided by those going downwards) is as high as it has been since the rebound at the end of the Great Recession. This chart, and those that follow, comes from a great research report by Savita Subramanian of BofA Merrill Lynch:
Further, the optimism is broad based. Only three of the 11 main economic sectors show negative revisions and only real estate — which tends to be sensitive to rising interest rates — is showing significant downgrades:
Perhaps most intriguingly, the revision ratio for financials, long in the doldrums since the credit crisis, is as positive as it has been since 2004, when the sector was surfing on the sea of cheap credit that brought about the disaster of 2008. If rates increase it should make it easier for banks to turn a profit — although the flattening yield curve of recent months would cut against this:
Another fascinating trend is a return of optimism surrounding sales. For several years at the beginning of the post-crisis rally, earnings increased on stagnant or falling sales. Companies ground out greater profits, but not in a way that greatly helped to spur economic growth. But over the past three months, optimism over sales has outstripped optimism over earnings to the greatest extent in the last 20 years:
This is not necessarily great for asset prices in the longer term, but it should be exactly what the politicians in power want to see. For another example of this, the latest Thomson Reuters scorecard shows, very unusually, that sales forecasts for the fourth quarter have been rising steadily for the past 12 months:
One final point is that the greatest optimism, by far, seems to have affected multinationals, who derive the highest share of their earnings from outside the US. The weaker dollar might therefore have much to do with the overall numbers — it was probably the most powerful and effective stimulus administered to the US economy last year:
These numbers help to explain the strength of the market in the last few months. As companies tend not to be this optimistic in public unless they can back it up, it is reason to expect a strong earnings season.
For share prices, this is positive in the short term. In the longer term, if the economy is really back to robust growth then logically interest rates should rise, which would limit equity valuations. But for the time being it is a happy new year. On which note, Happy New Year
from Abba, and also, rather more rousingly, from U2, when they were really, really good (35 years ago):
And just to prove that I listen to what my kids listen to, here is a much more contemporary and very sweet take on New Year’s Day, by Taylor Swift:
Let’s have a good 2018, everyone.
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