WILL THE SANTA RALLY EXTEND ALL THE WAY THROUGH TO THE SPRING RALLY?

Will The Santa Rally Extend All the Way Through to the Spring Rally?
 
On Oct. 27, 2017, the Bureau of Economic Analysis reported GDP growth that frankly shocked the experts. The New York Feds were predicting 1.6% GDP growth. The advance report came in at 3.0%. That was essentially a green light for the Santa Rally. (The report will be revised again on Nov. 29th and Dec. 21st, 2017, at which point it could come in higher or lower, based on more complete data.)
 
Are There Any Red (Warning) or Yellow (Caution) Lights on the Santa Rally?
There are definitely red and yellow lights on the economy. One has a deadline smack in the middle, on Dec. 9, 2017 (the Debt Ceiling crisis re-emerges). However, if an economy crashes in the woods and no one reports on it, then it doesn’t really happen until it makes headlines. (That’s really been the story of the past three years, when financial engineering has fueled the rise in real estate and equity assets.) The Cliff Notes on when headlines will start appearing is probably not until January or February of 2018. Below are the reasons  why.
 
Retail Bankruptcies: The Canary in the Coal Mine
There have been 19 high-profile retail bankruptcies this year already, with Toys R Us being the most recent. This is a hint that the heavily indebted American consumer, which accounts for 70% of GDP growth, is overburdened. In fact, U.S. consumer debt is back to an all-time high, at $12.84 trillion. There is only so long that consumers can borrow at credit card usury interest rates to buy things before the credit defaults start happening again. In fact, credit card defaults have climbed for the 3rd straight quarter – something that hasn’t happened since 2009.

Retail bankruptcies also hit banks and bond investors very hard. Before the Great Recession, the mortgage bank bankruptcies of early 2007 were the omens of harsh times to come. They were background noise, just as the retail bankruptcies are today, while stocks continued to rise. The politicians stuck to the sound byte that the mortgage bank bankruptcies were limited in scope and wouldn’t affect the larger economy.
 
The retail bankruptcies aren’t even included in the current political debate, and when they are, they are pushed under the carpet with the phrase, “The Amazon Effect.” There is an outdated brick-and-mortar issue. However there is also a dramatic drop-off in spending on retail, particularly by Millennials, who prefer experiences and adventures over things. Once the retail bankruptcy fallout starts spreading into the earnings of mall REITs and banks that could start making headlines in the months ahead.
 
The Debt Ceiling Will Be Hit (Again) on Dec. 8, 2017
The current U.S. public debt is $20.5 trillion. The current total U.S. debt and loans are $66.7 trillion. These numbers have become so astronomical that it is almost beyond comprehension. However, the easiest way to understand them is to know that the Federal Reserve decided to print money and keep interest rates low, which always creates bubbles.  Consumers aren’t benefiting from the low interest rates, unless you’re purchasing a home at an all-time high (something that will come back to bite you big time when prices correct). Companies and countries are benefiting from low interest rates, in that the cost of borrowing is almost free, until credit risk becomes more apparent, at which time interest rates will jump and the problems that have been kicked down the road become exponentially more expensive. That is the specter that is looming behind the ongoing Debt Ceiling crisis. 
 
The two credit agencies that still maintain the U.S. with a AAA rating, namely Fitch Ratings and Moody’s Investor Services, have both indicated that the U.S. debt level is inconsistent with the AAA rating. In August, both agencies warned that if the U.S. didn’t raise the Debt Ceiling in time, they would review and possibly downgrade the U.S. credit. The last minute 3-month extension deal that the White House struck with the Democrats postponed the reviews. However, on September 11, 2017, Moody’s warned, “Even if the three-month suspension is approved by lawmakers, the risk of an economically disruptive stalemate over the debt ceiling in early 2018 remains.” Neither agency has a review of the U.S. rating on calendar at this time. However, both will be forced to address the issue when they believe that the U.S. is running dangerously close to the point of not being able to fund our bills. That is predicted to occur in February of 2018. (If Treasury Secretary Mnuchin has borrowed enough to get us through to April, when tax receipts pour in, the next Debt Ceiling crisus this could be postponed to late summer or early fall.)
 
Where are the Bubbles?
Real estate and stock prices are back to all-time highs – so high in fact that two top economists have issued warnings.
 
“The American Dream of home ownership remains elusive, as the third quarter figure shows little change in the overall  rate. The reason is simple. There is just not enough supply of homes to fully satisfy the desire to own. The lack of inventory has pushed up home prices by 48% from the low point in 2011, while wage growth over the same period has been only 15%,” Lawrence Yun, the chief economist of the National Association of Realtors, in a statement on October 31, 2017.
 
“The only time in history going back to 1881 when [stock market prices] have been higher are, A: 1929 and B: 2000. We are at a high level, and its concerning. People should be cautious now.” Robert Shiller, Nobel Prize winning economist and Yale professor of economics
 
Bitcoin and crypto-currency have had astronomical gains this year, with traders and novices pouring in, in droves.
 
Is the Economy Really Growing & Healthy?
So, what about the 3% GDP report? The 4th quarter GDP report estimates are coming in even higher – at 3.2-4.6%! The advance 4th quarter GDP report comes in at the end of January. If the projected numbers hold true, then the wind should be at the back of the stock market through the Spring Rally (assuming there is no Debt Ceiling crisis). The big issues between now and then are thes issue of the debt ceiling, and any credit implications that might have and the impact of the hurricanes. For example, if imports rise, then the GDP reports will be revised downward. (This morning’s International Trade Report reflected a rise in imports.)

What is Hot?

What is Hot?
Right now, everything, except gold and clean energy, are hot, hot, hot! The problem is that they might be too hot to touch without getting severely burned.  If you are in the money, then it could definitely pay to wait until early January to do your annual rebalancing. If the Debt Ceiling crisis will be pushed out beyond April and the GDP reports remain strong, then you should be good through the end of April before Wall Street shows any sign of a correction. There are a lot of ifs in those sentences. I will keep you posted as developments occur.
 
If you’re tempted to jump into stocks or crypto-currency at current prices, do a forensic analysis to make sure that you are not buying at the top. (The adage is buy low, sell high; not buy high, hoping to sell higher.)
 
So, the economic correction deck is stacked and ready to tip. However, the likelihood that it tips before the end of the year is now low… mostly because none of the above issues are in the political or mainstream media dialog.
 
Other Blogs of Interest.
Financial Engineering. How Corporate Buybacks are Keeping Stocks Artificially High.
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What’s Hot?

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