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How to Allocate to Commodities

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What’s in Today’s Report:

  • How to Allocate to Commodities

Stock futures are under pressure for the third day in a row this morning as inflation fears continue to grip global markets ahead of today’s key April CPI report in the U.S.

Economically, Eurozone Industrial Production missed expectations while both the U.K. Monthly GDP and Industrial Production reports handily topped estimates which is helping the FTSE buck the trend and rally today.

Looking into today’s session, all eyes will be on the April CPI report due out at 8:30 a.m. ET (E: 0.2% m/m, 3.6% y/y). A hot print could spook investors and cause a continuation of the early week’s risk-off money flows.

Later in the session, there are multiple Fed speakers including: Clarida (9:00 a.m. ET), Bostic (1:00 p.m. ET), and Harker (1:30 p.m. ET) however Fed speak has remained decidedly dovish and none of today’s speakers should move markets.

Finally, there is a 10-Yr Treasury Note Auction at 1:00 p.m. ET and the outcome could give investors an idea of how bond traders view inflation in the wake of the CPI report.

Ultimately a soft bond auction and a subsequent rise in yields would likely compound this week’s already elevated inflation concerns and cause more volatility in equity markets while a strong auction could ease those concerns and see a relief rally develop.

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Weekly Market Preview, October 16, 2017

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Last Week in Review

The major takeaway from last week was that inflation remained stubbornly low in September and that took some of the momentum out of the recent reflation rebound. A decent retail sales number helped salvage the week’s economic data in aggregate, so the fallout for stocks was contained.

From a longer-term view, the fact that inflation remains stubbornly low does undermine the economic reflation that is needed to carry stocks materially higher, given valuations and the economic outlook.

Bottom line, last week wasn’t a particularly good one for the macro bulls, but given retail sales, it didn’t warrant a reversal of the September rally, either.

Looking at the important economic data from last week, there are really only two numbers of consequence: CPI and Retail Sales. The former was a disappointment, as the headline rose 0.5% vs. (E) 0.6% thanks to a hurricane-related surge in energy prices. Core CPI rose just 0.1% vs. (E) 0.2%, and the year-over-year Core CPI declined to 1.7% from 1.8%.

That’s well below the Fed’s 2% stated goal (and given how CPI is constructed, the real CPI goal for the Fed is probably more than 2.5%). So, the Fed still is not creating the type of statistical inflation it wants to.

While the inflation data was disappointing, the growth data on Friday was good. September retail sales were light on the headline at 1.6% vs. (E) 1.8%, but that was because of a dip in auto sales. The more important “control” group, which is retail sales less autos, gas and building supplies (it gives us the best
look at truly discretionary consumer spending), rose 0.4% vs. (E) 0.2%. Importantly, the August core Retail Sales reading was revised to 0.2% from flat.

Looking elsewhere economically last week, there were other reports (NFIB, Chinese Trade Balance, European IP), but none provided any big surprises and none will influence the next direction for stocks or bonds. Bottom line, taken in aggregate (and thanks to retail sales) the economic data last week was close enough to “Goldilocks” to prevent a reversal of the September rally.

From a Fed standpoint, the data this week coupled with some dovish Fed comments turned a December rate hike from a “sure thing” to a “probably,” unless we get more soft inflation or growth readings. That helped push stocks slightly higher on Friday initially, but a Fed that can’t hike rates to 1.5% from 1.25% for fear of low inflation or economic growth isn’t the prescription to materially higher stock prices.

This Week’s Preview

There are a lot of anecdotal economic reports this week that, when taken in aggregate, should give us decent insight into the current state of the US economy, and whether we’re seeing growth accelerate.

The most important numbers this week are the Empire Manufacturing and Philly Fed Indices, which offer the first look at October economic activity. Since the creation of the national flash PMIs, Empire and Philly have lost some of their significance, but this week they are the only October data points, so they’ll be watched to see if economic momentum in September carried over into October.

Away from Empire and Philly, the next more important releases come from China. On Thursday, we get Chinese Fixed Asset Investment, Retail Sales, Industrial Production and GDP. None of these should offer any surprises, but if they are weaker than expected that could cause a mild headwind on stocks.

Finally, this week we get September Industrial Production. Remember, “hard” economic data has, until very recently, badly lagged “soft” survey-based data. In September, retail sales helped close that gap some, but industrial production has remained well below levels you would think given the PMIs. If industrial production can accelerate in September (and remember the key is the manufacturing sub-component), then that will be a good signal that actual economic activity is finally accelerating to meet survey data (a positive for stocks).

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CPI Preview, October 13, 2017

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Looking to today’s CPI report, the preference here is for a slightly “Too Hot” number in headline and core CPI while a worst case scenario for stocks is a soft number, but keep in mind there will be impacts from the Hurricanes so the details in the report will be important.

Bottom line, I’ve said consistently for months that the only way I can see stocks moving materially higher is if they are driven by a reflationary rally. We got a glimpse of that in September, but for the reflation rally to continue, we need more Goldilocks data starting with today’s CPI.

Disconcertingly, if we don’t get that Goldilocks data, then the onus is going to be totally on earnings season to support stocks, and ensure this September rally doesn’t reverse. In that scenario, it’s an awful lot of pressure to put on continued growth in corporate earnings this late in an economic cycle.

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Virtuous vs. Non-Virtuous Reflation Trades, October 29, 2017

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Can the economic data support a continued bullish “reflation” trade in the markets? So far, the events of this week (strong Durable Goods, “progress” on pro-growth tax reform) have supported that idea, and that’s why the S&P 500 is sitting at fresh all-time highs.

But, the next seven days will present both risks and opportunities for the reflation trade to accelerate, or falter.

In yesterday’s issue, I referenced a “virtuous” reflation trade—one that is positive for the broad stock market and especially positive for our reflation basket.

In this scenario, 1) Inflation firms and gradually accelerates, 2) Growth accelerates modestly, 3) Central banks gradually raise rates but not at a pace that unnerves the stock market or sends yields too high, to quickly.

That’s what we’ve seen from the data starting almost three weeks ago with the Chinese inflation numbers
(followed by firm British CPI and US CPI). That’s why stocks have rallied, and it’s why our reflation basket has outperformed.

Conversely, there is a “non-virtuous” reflation we need to be aware of. In this scenario, growth and inflation accelerate too quickly, and markets begin to price in a more hawkish Fed, ECB and BOE.

In this scenario, while banks and other ETFs listed in our reflation basket would either outperform on an
absolute basis and/or on a relative basis, the rest of the market might not fare as well (particularly tech).

This is what we saw in June, where the declines in tech weighed so much on the market that it began to “suck in” other, more cyclical sectors. This is the negative side of reflation we need to watch for in the weeks ahead.

Bottom line, the market now again nearing a tipping point, and the data today and next week will go a long way to telling us 1) Whether we’re seeing a legitimate reflation, and 2) Whether it’s virtuous (bullish).

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CPI Preview, September 14, 2017

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I normally don’t do CPI previews (sometimes if it’s a non-event number, I won’t even bother you with a CPI review), but this number is different for two reasons.

First, the fledgling hopes of an economic reflation have pushed stocks to new highs. Second, if this CPI report does meet or beat estimates, then it might continue the sector rotation that has seen cyclical sectors (banks in particular) outperform this week at the expense of YTD outperformers such as utilities, healthcare and super-cap internet. So, it will raise the question of whether a tactical rotation is necessary.

Hawkish If: Core CPI beats the 0.2% m/m expectation.
Likely Market Reaction (assuming it’s a small beat): Stocks should continue to rally. Look for Treasury yields and the dollar to continue to rally, and for..(withheld for subscribers only—unlock specifics and ETFs by signing up for a free two-week trial).

Neutral If: Headline CPI meets the 0.3% m/m expectation while core CPI meets the 0.2% m/m expectation. Likely Market Reaction: A mild continuance of the…(withheld for subscribers only—unlock specifics and ETFs by signing up for a free two-week trial).

Dovish If: CPI misses the headline or core expectations of 0.3% m/m or 0.2% m/m. Likely Market Reaction: An unwind of the…(withheld for subscribers only—unlock specifics and ETFs by signing up for a free two-week trial).

Cut through the noise and understand what’s truly driving markets, as this new political and economic reality evolves. The Sevens Report is the daily market cheat sheet our subscribers use to keep up on markets, seize opportunities, avoid risks and get more assets. Sign up for your free two-week trial today and see the difference 7 minutes can make. 

Weekly Market Cheat Sheet, August 7, 2017

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Weekly market cheat sheet

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Last Week in Review

Friday’s jobs report caused a mild reversal of the week’s long downtrend in yields and the dollar, but that was more a function of “covering shorts” on the news rather than it was a function of the jobs report being materially hawkish (it met our “Just Right” scenario).

In total, while unemployment dipped further and wages were steady, in aggregate the economic data from last week largely reinforces the “stagnation” outlook for markets (slow-but-steady growth, low inflation).

Starting with the jobs report, as mentioned, it hit the upper end of our “Just Right” scenario. The headline job adds was stronger than expected (209k vs. 178k) while the June revisions were positive (up 9k to 231k).

Meanwhile, unemployment and wages met expectations: 4.3% unemployment and 0.3% wage gains, with a 2.5% yoy increase. In all, it’s a pretty Goldilocks jobs report, as job adds remain strong and the downtrend in wage inflation appears, at least in July, to have stopped.

That’s why we saw the rally in the 10-year Treasury yield and dollar. It wasn’t that the report was hawkish, but it did stop the trend in lower inflation stats. And, with a market as stretched to the downside as the Dollar Index and 10-year yield both are, it caused a snap-back rally.

Importantly, other than potentially making a December rate hike slightly more expected, Friday’s jobs report did nothing to alter the outlook for the Fed (still balance sheet reduction in September).

Looking at the economic data the rest of last week, it was more of the same: Not particularly impressive, but not implying a slowdown, either.

The ISM Manufacturing PMI slightly beat estimates at 56.3 vs. (E) 56.2, and that remained well above the important 50 mark. So, while there was a decline from June, it remains indicative of a manufacturing sector that is seeing growth accelerate.

The one disappointing economic data point last week was the ISM Non-Manufacturing (or service sector) PMI. It declined to 53.9 vs. (E) 56.9, and was the weakest reading since August 2016. However, the private sector Markit Services PMI rose to 54.7 from 54.2, so there is a conflicting message there (ISM is one firm that produces PMIs, and Markit is a competitor. Usually, their PMIs are generally in agreement, but not this month… and it has to do with the survey questions each use and the makeup of the final indices. It’s an oddity that there was a discrepancy, but it’s not an economic red flag (at least not at this point).

Bigger picture, economic growth through June and July appears consistent with the slow-but-steady growth we’ve become accustomed to over the past several years. It’s certainly not a negative for stocks, but it’s not going to create a rising tide that propels us to new highs.

This Week’s Preview

As is usually the case for the week following the jobs report and the PMIs, this week will be quieter from an economic data standpoint, although there is a very important report coming this Friday… CPI.

As we’ve said consistently, inflation is much more important right now (because it’s declining) than economic growth (which remains steady), so inflation numbers will have the potential to move markets more than growth numbers, as we saw on Friday with the jobs report.

To that end, Friday’s CPI has the potential to send bond yields and the dollar higher, if it confirms Friday’s wage number that implies inflation steadied in July. Conversely, if the CPI report is soft we’ll see Friday’s rally in bond yields and the dollar undone, quickly.

Outside of CPI Friday (and PPI on Thursday) the next most-important data point this week will be the Productivity and Costs report Wednesday. In Friday’s Report, I listed a number of events that could push stocks higher if earnings growth has peaked near term. Increased productivity was one of those events, so a strong productivity number will be positive for markets.

Beyond those two numbers, the domestic calendar is quiet this week, and none of the reports coming (NFIB Small Business Optimism Index, jobless claims) should move markets too much.

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FOMC Takeaways, March 17, 2017

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Linda Yellen

The FOMC raised the fed funds rate 25 basis points, as expected.

The FOMC raised the fed funds rate 25 basis points, as expected.

Below is an excerpt from the full Sevens Report, focusing on the takeaways from the March 15, 2017 Fed meeting. The Sevens Report is everything you need to know about the markets in your inbox by 7am in 7 minutes or less. Sign up for a free 2-week trial today!

Takeaway

The results of this meeting largely met our “What’s Expected,” scenario, as the Fed did hike 25 basis points, but the median “dots” for the number of hikes in 2017 and 2018 were unchanged at three in each year.

So, the Fed generally met well-telegraphed expectations, and the market took it dovishly (as you’d expect). Futures doubled their pre-Fed gains while the dollar dropped sharply and bonds rallied.

Yet, despite the initial moves, I don’t see Thursday’s Fed decision as a bullish game changer, simply because unless we get a surprise downturn in economic data (which won’t be good for stocks), risk still remains for more rate hikes going forward.

So despite the somewhat confusing Fed tactic of rushing to hike in March, only to keep the statement and projections dovish, I’m sticking with my expected market reactions… Stocks rallied, but this isn’t a bullish game-changer; bond yields dropped but it’s likely not a reversal in the uptrend in yields (same for the dollar), and gold rallied and while we may not see a sustained rally just yet, the outlook is becoming more favorable.

Going forward, the market still expects two more hikes in 2017, with June being a close call.

CPI

  • February CPI rose 0.1%, meeting expectations.
  • Core CPI rose 0.2%, also meeting expectations

Takeaway

CPI inflation data largely met expectations on March 15th and the numbers likely didn’t have any effect on the FOMC decision. However, the important point here is that PPI and CPI both confirmed inflation pressures continue to build. Case in point, the year-over-year headline CPI rose to 2.7%, which is a five-year high, while core rose to 2.2%, above the Fed’s stated 2% goal.

From a practical investment management standpoint, this continues to underscore the need for investors to make sure they are positively skewed to inflation for medium- and longer-term accounts (i.e. more equity exposure, reduced long-term bond exposure, TIPS exposure, select hard asset exposure).

Retail Sales

  • February retail sales rose 0.1%, meeting expectations.

Takeaway

There was some noise to cut through in this report, because while the headline met expectations, the more important “control” group (retail sales less autos, gas and building materials) rose just 0.1% vs. (E) 0.3%.

Again, we and others look at the control group because it’s the best measure of discretionary consumer spending. And while that number did miss estimates, the January data saw a big, positive revision, as the control group went from up 0.4% in January to 0.8%. All in all, the numbers were basically in line.

From a market standpoint, this retail sales number still leaves a large and uncomfortable gap between sentiment data (like the Empire Manufacturing Survey and PMIs, which are very strong) and actual, hard data.

Case in point, the Atlanta Fed GDP Now estimate for Q1 GDP fell to 0.9%—hardly robust growth.

Yes, for now the expectation of better growth is off-setting lackluster hard data, but at some point the hard data needs to start to reflect these high sentiment surveys.

This FOMC review is part of the full Sevens Report. For a monthly cost of less than one client lunch, we firmly believe we offer the best value in the independent research space—and you can get two weeks free by signing up for our trial version. Try it today and see what a difference the Sevens Report can make for you every morning.