A Year-End Rally or Meltdown in the Cards?

Fred Imbert of CNBC reports that the Dow drops more than 250 points to end the week as Boeing and J&J plunge:

The Dow Jones Industrial Average fell sharply on Friday, weighed down by steep losses in Boeing and Johnson & Johnson. The broader market was also pressured by a decline in Netflix shares that led other Big Tech stocks lower.

The 30-stock index ended the day down 255.68 points, or 0.95% to close at 26,770.20. Boeing dropped 6.8% — its biggest one-day drop since February 2016 — on news that company instant messages suggest the aerospace giant misled regulators over the safety systems of the 737 Max. Johnson & Johnson slid 6.2% after the company recalled some baby powder upon finding traces of asbestos.

Friday’s losses wiped out the Dow’s gains for the week. The index closed down 0.2% week to date.

Meanwhile, S&P 500 pulled back 0.4% to end the day at 2,986.20 while the Nasdaq Composite slid 0.8% to 8,089.54. Netflix shares dropped more than 6%. Facebook, meanwhile, slid 2.2% while Amazon fell 1.6%. Alphabet shares pulled back 0.4%.

Both indexes were able to post solid gains for the week despite Friday’s decline. The S&P 500 rose 0.5% week to date while the Nasdaq gained 0.4% as enthusiasm around the first batch of corporate earnings lifted market sentiment.

More than 70 S&P 500 companies reported calendar third-quarter earnings this week. Of those companies, 81% posted better-than-expected results, FactSet data shows.

Some of the companies posting stronger-than-forecast results this week include Bank of America, Netflix, J.P. Morgan Chase and Morgan Stanley. Coca-Cola continued that trend on Friday, rising more than 2%.

“There was so much nervousness coming into the earnings season about what they would bring, there is some happiness that this is pretty good,” said JJ Kinahan, chief market strategist at TD Ameritrade. “What they’ve really done is two things: Show the financials are incredibly resilient, and confirm that the consumer is ridiculously healthy.”

Optimism around Brexit also gave stocks a boost this week. The U.K. and European Union struck a long-awaited draft Brexit deal. British and EU officials reached the agreement after successive days of late-night talks and almost three years of tense discussions.

British Prime Minister Boris Johnson will now attempt to persuade U.K. lawmakers to back his agreement, ahead of what is expected to be a knife-edge vote on Saturday.

“There seems to be an underlying eagerness to see the SPX sustainably break above 3K and hit fresh highs,” Adam Crisafulli, founder of Vital Knowledge, said in a note. “But in reality this feels like an attempt by people to wrap a fundamental justification around a bullish bias that is really being motivated by positioning pain, performance anxiety, and general ‘FOMO.’”

“In the very near-term, a 3K upside break might happen, but this will probably wind up being nothing more than a brief ‘head fake’ rally,” Crisafulli wrote.

My own thinking is we are probably going to see the S&P 500 (SPY) break above the 3,000 level and then it's either going to dump hard from there or the bulls will try to take out fresh highs to establish a base pattern around that level:

Everyone is asking me if I am bullish or bearish, I reply "I'm ambivalent and think the market will trade sideways going into year-end."

If you look at the chart above, the SPY is trading above its 50-week moving average and when it dips, it doesn't fall below this level.

The experts at Ned Davis Research think three things could spark a year-end rally: “In order for the market to bottom in the next few weeks and stage a year-end rally, it will need to overcome three hurdles: enthusiastic earnings expectations, the latest recession fears, and complacent sentiment,” their report says.

They may be right. There are a few things to keep in mind which differ from last year:

• The first and most important thing is the Fed is in easing mode. In fact, since last December when stocks got slammed, the Fed and other central banks are in easing mode, and that monetary stimulus typically works itself into the market with a lag of about 12 to 18 months.
• Still, that doesn't mean stocks can't get hit at any time, especially in the near term as geopolitical risks reign. And there is something else to keep in mind, we are headed towards US elections next November. That means big money is trying to position itself ahead of the trade. If Trump gets re-elected, stocks will likely have a relief rally, if Elizabeth Warren or Bernie Sanders get elected, stocks will likely get slammed. I say likely because nobody really knows who will win or what will happen to the stock market after regardless of who wins. The big wildcard is if Trump gets impeached but without support from the Senate, I don't see this happening.
•  We already had the Quant Quake 2.0 in September, so it remains to be seen whether another one hits us going into year-end. It might but my hunch is it won't because typically investors want to wrap up the year in cruise control, locking in their gains and waiting for the new year to come.

I realize this isn't very scientific or highly rigorous analytical analysis based on valuations, but I am paying less attention to the market as a whole and focusing more attention on individual names.

For example, here is a quick snapshot of the big movers on the S&P 500, Nasdaq and Dow on Friday:

In terms of sectors, here's what happened this week:

Interestingly, healthcare stocks (XLV) led the market this week after languishing most of the year.

For the year, tech stocks (XLK) are leading the market, followed by real estate shares (IYR) while healthcare (XLV) and energy (XLE) are the underperformers.

If the rotation out of momentum shares (MTUM) into value shares (VLUE) continues, energy shares should come back next year:

Of course, for energy shares to come back strong, you need a global economic recovery, and that comes down to whether all this massive global easing from central banks proves to be fruitful.

This late in the cycle, I'm not sure it will as there's too much debt out there so monetary stimulus is pushing on a string.

That leads me to Lacy Hunt and Van Hoisington's latest Quarterly Economic Review and Outlook which you should all take the time to read here.

It is a superb comment and they end off with this outlook:

The global over indebtedness has clearly restrained growth, and therefore has had a profound disinflationary impact on every major economic sector of the world. This fact, coupled with an overzealous U.S. Central Bank have created the conditions for an economic contraction in the U.S. and abroad. This has also created a worldwide decline in inflation and inflationary expectations. It is therefore unsurprising that record lows in long term interest rates have been established in all major economic regions. A quick and dramatic shift toward greater accommodation by the Fed could begin to shift momentum from contraction toward expansion. However, policy lags are long and slow to develop, therefore despite the remarkable decline in long term yields this year, we are maintaining our long duration holdings. A shift towards shorter duration portfolios would be appropriate when the forward-looking indicators of expansion, in the U.S. and abroad, begin to appear.

I maintain the big story of the year isn't how well US stocks performed but how well US long bonds (TLT) have performed:

There was a pullback recently but long bonds have performed exceptionally well this year and if Lacy Hunt and Van Hoisington are right, the best is yet to come.

Below, earlier this week, Leon Cooperman, founder of Omega Advisors, told "Squawk Box" that the current bull market will take another leg higher before coming to an end. Cooperman also said he thinks the stock market would drop 25% if Elizabeth Warren is elected president.

And Tom Lee, Fundstrat Global Advisors managing partner, joins 'Fast Money Halftime Report' to discuss why he thinks there is more more gains ahead of the stock market. Shannon Saccocia, Boston Private Wealth CIO, and Rob Sechan, UBS Private Wealth Management, also discuss.

Third, "Is it the end of great bond bull market?" with CNBC's Melissa Lee and the Fast Money traders, Tim Seymour, Chris Verrone, Dan Nathan and Guy Adami.

The answer is a definite no. Make sure you read Lacy Hunt and Van Hoisington's latest Quarterly Economic Review and Outlook here to understand why and never mind CNBC's Fast Money traders even if a couple of them got it right.

Fourth, Howard Marks, co-chairman at Oaktree Capital, discusses his latest note to clients on negative interest rates, the reasons why investors buy negative-yielding assets, relying on analysis over ratings, and the inevitability of a US recession. He speaks with Bloomberg's Erik Schatzker on "Bloomberg Markets."

Lastly,  Bridgewater's Ray Dalio says the world is in a ‘great sag’ and echoes the 1930s. Speaking a CNBC-moderated panel at the IMF and World Bank annual meetings in Washington, D.C. on Thursday, Dalio said it was now too late for central banks to make much difference as economies enter a natural downturn.

“This cycle is fading, we are now in the world in what I would call a ‘great sag’,” said Dalio, adding that monetary policy, and especially interest rate reductions, were unlikely to offer much stimulus.