Are US Stocks Going to Melt Up?

Bob Bryan of Business Insider reports, HSBC: Stocks look like they could 'melt up':
Stock are going up and to the right, according to the technical analysis team at HSBC.

The group, headed up by Murray Gunn, observed numerous key indicators it said pointed to a higher move for the S&P 500 over the next few weeks.

"The S&P 500 Industrials sector has given a bull signal with momentum turning higher on the back of a positive Cyclical Trend Indicator," Gunn wrote in a note to clients Monday.

"Added to the upside breakout in the FANGs highlighted in our publication of June 2, this is further evidence that a melt up in US stocks is becoming an increasing probability."

The thinking here is that both manufacturing stocks and consumer-related stocks such as the FANGs (Facebook, Amazon, Netflix, and Google by HSBC's definition) are looking strong using HSBC's preferred method, the Elliott Principle.

The principle posits that investors move between periods of bullish and bearish sentiment in a consistent pattern, and based on the current charts it appears that the S&P 500 is going into a period of bullish thinking. (Our full explanation of the Elliott Principle can be found here.)

So in Gunn's analysis, both industrials ...

... and the FANGs have strong bullish trends forming to support them.

Basically, the upshot here is that stocks are going higher for the near term, so get on board while you can.
No doubt, Wall Street is hoping to keep Monday's rally alive with the S&P 500 closing in an all-time high. Stock futures are pointing to gains at the open after Fed Chair Janet signaled on Monday that a gradual rate increase is still appropriate despite last Friday's dismal jobs report.  

But before you get on board for the "biggest stock market melt up in history," you might want to read Richard Suttmeier's latest, S&P Hits New High but We're Not Out of the Bear's Woods Yet, where he states the index was helped by rallies in the materials, financials, health care and utilities sectors, but their technical charts are flashing warnings:
The S&P 500 set a 2016 high of 2,105.26 last week, but with declining momentum (12x3x3 weekly slow stochastic), which defines a neutral weekly chart.

Against this backdrop, this benchmark average can set a new all-time high above its May 20, 2015, high of 2,134.72, if the average stays above its key weekly moving average (five-week modified moving average) of 2,066.87.

Setting a new high should not be considered a long-term buy signal, however. Strength to my key levels for June of 2,167.8 and 2,173.6 is an opportunity to reduce holdings in the stock market.

This risk is reflected in negative technical divergences shown in the weekly charts for the 10 S&P sector exchange-traded funds.

Here's this week's scorecard for these 10 ETFs courtesy of MetaStock Xenith.

I will let you read the rest of his comment here as he goes over the technical charts for each major sector.

When it comes to stocks, I always look at global liquidity first and foremost -- and it's plentiful as every central bank around the world is in hyper accommodative mode. Also, I would ignore any bond guru warning you to prepare for a liftoff in US rates this summer. It's not going to happen, especially after Friday's dismal US jobs report and a slew of negative US economic data.

Warren Mosler did a great job going over these reports on his blog. Sober Look also explains why the US labor market is taking a turn for the worse as does Brian Romanchuk in his post looking at Yellen's speech versus the labor market conditions index. You should also read Gerard MacDonell's latest, Damn you global central banks! as well as his other market comments on his blog, Beinn Bhiorach.

Beyond weaker domestic data, my thinking on Fed rate hikes is very simple. As long as global deflation risks lurk, the Fed would be foolish to raise rates, strengthening the US dollar and increasing the likelihood of deflation disaster in Asia spreading to America via lower import prices.

That's the real reason why stocks rallied on Monday. The Fed is out of the way, at least for now. I know, you will hear endless chatter about a rate hike but it's all noise, the Fed won't hike rates this year (never mind what Yellen said on Monday).

Having said this, with deflation risks lurking in the background, I would be very careful trading these markets. Below, a list of ETFs I track closely (click on image):

You'll notice that energy (XLE) shares led the major sectors as oil service stocks (OIH) soared higher, up 7% on Monday. There were big moves in many oil service stocks that make up this ETF as oil prices crept higher on Monday.

So stock traders are getting excited here (bond traders keep yawning). The thinking is as follows: the Fed is out of the way, the US dollar is going lower, and the big party in oil and commodities is going to continue in the second half of the year.

Except that's not the way things are going to work out. The yen rallied on Monday as Japanese officials were fast to talk down the strength of their currency following Friday’s sharp decrease in value of the US dollar following the weaker than expected jobs report.

I've said it before and I'll say it again, the US dollar is going to gain relative to the yen and euro in the second half of the year because real yields in US will be higher than elsewhere and there are many traders positioned for an endgame in the dollar bull run especially now that the Fed is on hold.

Have a look at the USD/Yen exchange rate (click on image);

If you think the yen will strengthen sinking below 100, get out of stocks as it will mean a Risk-Off trading environment (the unwinding of the yen carry trade will wreak havoc on risk assets).

However, if you think the yen will continue to weaken, then that's good news for stocks as the yen carry trade will dominate trading (large hedge funds and trading outfits will leverage by borrowing in yen to buy US stocks and corporate bonds).

Now, look at the Euro/USD exchange rate (click on image):

It's been range-bound between 106 and 115 since March 2015 and while some are worried about Brexit taking the euro down with the pound, others are more sanguine and think the odds of Brexit actually happening are extremely low when the final votes are tallied up (Read Andreas Koutras's latest, The Great Brexit Debate).

One thing is for sure, the euro has caught a severe case of ECB apathy as Fed, Brexit take center stage but if Brexit doesn't happen, the pound and euro will both take off relative to the US dollar (but the yen will drop and eventually the euro will drop too as deflation is still a problem there).

All this to say I foresee US dollar gaining strength in the second half of the year and this will weigh on oil prices (USO), energy (XLE), metals and mining (XME), and gold shares, especially gold miners (GDX) which rallied hard this year.  It will also weigh on industrials (XLI) and emerging markets (EEM).

Below, I embed a few charts of these sectors so you get a feel of where we stand now (click on images):

As you can see, energy, metals and mining, gold miners and emerging markets all rallied hard since their lows in the beginning of the year as the US dollar weakened and oil prices surged higher. But the 5-year charts are still ugly and these sectors all remain below their 400-day moving average which I use to gauge long-term trends (nothing scientific here, just a longer moving average I use apart from the 200-day one).

Now, industrials (XLI) look interesting because they're still in a secular bull market but they need to break higher here or else they too risk revisiting their lows of earlier this year if the US dollar gains on other currencies in the months ahead (click on image):

Even more interesting are how utilities (XLU), REITs (IYR), Telecoms (IYZ) and financials (XLF) are acting in a deflationary world (click on image):

As you can see, they're all doing fine, especially utilities, but real estate makes me very nervous and financials are struggling in an ultra low and negative rate environment. This is why baby boomers looking for yield are turning to utilities but valuations are stretched in that sector.

The sectors which I remain bullish on right now are biotech (IBB and XBI) and health care (XLV) which has big pharma, big health care insurance companies mixed in with some big biotech and medical device companies (click on images):

Biotech shares got massacred in Q1 but this represents a huge opportunity to load up on the sector as many individual companies are still way oversold

For example, below are just a few of the over 400 biotech shares I track (click on image):

When biotechs swing, they swing hard both ways but many of these smaller biotechs will eventually be bought out by bigger pharma companies that need new products. 

Still, there are concerns with some of the bigger biotechs. For example, (BIIB) is set to open lower on Tuesday as its new MS drug missed its main goal in a mid-stage study. But take it from someone with progressive MS who knows all the drugs out there, this company is a powerhouse when it comes to MS drugs, so this is a minor setback

Then there is Valeant (VRX), its shares keep sinking lower weighing on the entire sector but we'll see if it finally stabilizes or crumbles.

Let me end with a few charts. First, technology shares (XLK) continue to forge higher on the back of FANG stocks but also many other great technology names (click on image):

Second, retailers (XRT) are struggling in a deflationary world where people are putting off spending to pay down debt but they are due for a bounce here (click on image):

And lastly, the ultimate diversifier, good old boring US bonds (TLT) just in case stocks and other risk assets melt down not up and you want to limit your downside risk (click on image):

By the way, for all you who subscribe to the theory of stocks for the long run, here is a nice tweet from Charlie Bilello of Pension Partners that will open you eyes (click on image and note these are total returns!!):

You should follow all of Charlie's market tweets here as he provides great technical information on the stock and bond market and lots more. I just gave you a little glimpse of how I see these markets evolving and where I see opportunities going forward.

Still, be very weary of anyone claiming stocks are going to melt up in a deflationary world. It's not going to happen and if it does, the disconnect between stocks and the real economy will widen, meaning the downside risks will be materially larger.

The bond market is telling the stock market to prepare for much lower returns ahead. There might be pockets of speculation and wild moves with individual stocks (like Celator Pharmaceuticals which gained a whopping 1600% YTD after it got bought out from JAZZ Pharmaceuticals).

On a personal note, you'll notice I didn't post any comment on Monday. I was busy trading and had a long lunch with a very interesting lady who has traveled the world and shared great insights with me. These comments take a lot of time to produce and it's the summer so bear with me if I skip a day or week from blogging.

As always, please remember to contribute to this blog via PayPal at the top right-hand side to show your support. I thank all of you who contribute, no matter what the amount.

Below, Michala Marcussen, Societe Generale, discusses the upside and downside risks to the economy's growth. Read my comments on another Asian financial crisis and why it feels more like 1997 than 2007.

Also, Brian Belski, BMO Capital Markets; Dean Maki, Point72 Asset Management; and CNBC's Steve Liesman discuss a Societe Generale report on "black swans" for the global economy.

Third, Geoffrey Yu, ultra high net worth investment strategist at UBS, looks at Fed chair Janet Yellen’s latest speech, and what this means for the US dollar. While he doesn't expect much movement in the EUR/USD cross over the next year, he sounds more cautious on emerging market currencies relative to the USD.

I agree with his comments on emerging market currencies and we'll see how Brexit plays out at the end of the month. If all goes smoothly, expect the pound and euro to soar after that vote. Still, what worries me most is global deflation and while stocks could melt up, gravity and debt deflation will eventually bring them back down to Earth. Trade carefully in these markets and hedge accordingly.

Update: Bloomberg reports, Goldman Says There's an Elevated Risk of a Big Market Selloff. "With the S&P 500 close to all-time highs, stretched valuations and a lack of growth, drawdown risk appears elevated," says Goldman Sachs Group Inc. Managing Director Christian Mueller-Glissmann, who highlights that selloffs in excess of 20 percent for major bourses occur relatively frequently and recently have been brought about by concerns of a global nature.

Lastly, Jim Bianco, president and founder of Bianco Research, discusses the rally in the US and the impact of Brexit on markets. He speaks to Bloomberg's Angie Lau on "First Up" (watch below).