Bubbles and Bottoms 11 June 2019

It took 5 days to recover 19 days of losses. If we continue in this direction, we hit 3000 on the S&P 500 in no time!

This increase in market value comes on the back of another batch of terrible news for the economy, starting with the ADP employment report which showed a difference in the actual released number compared to the median of the employment survey, that was the largest since December 2008.

The market is yet again in a state where bad news is good news, as this big miss indicates that interest rates will be cut by the Federal Reserve soon, which is good for the markets.

These misses have cause the Citi Economic Surprise Index to stay below the zero level since early 2018, indicating a big decline in economic growth.

This in turn has caused the probability of an interest rate cut to spike to 85%, despite the fact that umeployment is still at record lows and markets are at record highs. This would normally not be an environment wherein the Federal Reserve would cut rates.

Speaking of unemployment. Everything looks well in theory, with the unemployment rate being at record lows, but when you`re looking at delinquent auto loans, which normally follow the curve of the unemployment rate (less unemployed people = less auto loan delinquencies), one can see that the two started diverging since late 2014. The question is: which of these two indicators is speaking the truth?

Meanwhile, the probability of a U.S. recession is extremely high, almost reaching levels from the last recession, with a 36% chance of a recession in one year, according to the treasury curve (the relationship between interest rates in the short term, compared to long term securities. Normally short term interest rates are lower, because there is less uncertainty over what could happen in 3 months, compared to what could happen in 10 years.)

Looking at the above, it would make more sense for the Federal Reserve to cut rates, so that they can avoid a recession. Inflation wise we also don`t really have to worry, as the U.S. inflation rate is extremely low, and the European inflation expectations are the lowest on record!

The biggest problem with low interest rates is always that cheap money goes to bad ventures. You can see that very well in the chart below, which shows that the market value of AAA rated corporate debt is now lower than BBB rated corporate debt.

So now that we are very close to a new rate cut, inflation is extremely low, and unemployment is near record low levels, we should jump into the S&P 500 head first, right?
Not so fast. Below you can see that if you really want to put your money into the stock markets, you should look at Europe instead of the U.S., as the relative price performance of the S&P 500 compared to European stocks is currently at a 2.2 standard deviation! That`s higher than 97% of the time!

So if you`re smart, you should look at European stocks. But if you`re really smart, i`d suggest you to look at commodities. The S&P 500 vs the CRB commodities index is at new all time highs, and i personally think that these all time highs won`t last very long. You can see that it tends to move in cycles that can last for more than a decade, and the current outperformance of the S&P 500 is already 11 years old.

Which commodity in particular should you choose? i would suggest to just pick a basket of commodities, like the CRB index, but if you`re interested in metals, then perhaps you want to have a look at the following:

the gold to silver ratio is at a high last seen in 1993. Basically you can buy 1 ounce of gold with 90 ounces of silver currently, while in 2011 for example, you could get an ounce of gold with just 32 ounces of silver! I`ve spoken a lot about this ratio in my previous newsletters, and i still think that silver is one of the best commodities to invest in right now. The great thing about this metal is that it also has a lot of industrial use, so unlike almost only institutional and consumer demand of gold, silver also has corporate demand.

Thank you for reading, and don`t forget to stay positive!

Robbert-John Sjollema

The information contained in this publication is not intended to constitute individual investment advice and is not designed to meet your personal financial situation. The opinions expressed in this publication is that of the publisher and is subject to change without notice. The information in this publication may become outdated and there is no obligation to update any such information.