12-19-16 Comments

I am taking a look at the possibility of a continuation of a longer-term rally. We have had some events that are reminiscent of 1995. In 1995 we were in the middle of a secular bull market that began in 1982. We had a short-term major pullback in 1987 (Black Monday) that was of bear market proportions but lasted only days before consolidating and moving back up to new high ground. In 1994 the market stalled and went sideways. The Federal Reserve had begun tightening in 1992, and by 1995 the Fed borrowing rates had doubled from 3% to 6%. So we had a stalling bull market at the time that was quite old by conventional measures (thirteen years) in a tightening environment. The bond market had been selling off with the proceeds going to the sidelines in cash. The S&P had advanced 420% by this point; one could make a case for the end of the bull market.

Then we had an election, and the Republicans took the House of Representatives for the first time in forty years. The market exploded, beginning an accelerated rally phase into the year 2000.

There are some parallels to today's market. By May of 2015, the NASDAQ moved up 313% from the 2009 lows before beginning a two-year sideways consolidation. The Fed began tightening in December 2015 and continued again this month. The Republicans took the White House and retained leadership in the Senate/House. Bonds are selling off.

If one were to apply the 1995-2000 Dow yardstick to the current market, the Dow would top 99,000 by the time the run-up was over.

When I look at long-term, secular market moves, I look at the Coppock indicator for guidance. Here are the Coppock Curves for the NASDAQ, Dow, and S&P on a Monthly interval chart.

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The Coppock signals a buy when the curve enters the negative half plane and then turns up. There have been recent buy signals in February-April of this year. Indeed we just barely came into negative values before moving up. Is this real of fake? Now, looking to history for guidance I now show the long-term S&P monthly chart from freestockcharts.com.

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On this chart are the last ten secular bull market buy signals. Eight of them are real, there is one fake-out in 2001 and then we have the current buy signal. By real, I mean that the buy signals were good times to enter the market. Circled in white are three shallow buy signals, the current buy signal and one in 1984 and 1995. The 1995 buy-signal doesn't quite qualify as it never quite entered the negative half plane, I include it as a near miss. 1995 turned out to be an excellent time to be in the market as the market accelerated.

So, I have outlined the parallels with 1995, and if the Trump rally has real legs, I have a context for understanding.

However, there are perhaps two 800-pound gorillas in the room that I haven't discussed. The first one is the mounting debt and the second one is the possibility of a failed European Union. I make this last point because it appears the Italian debt is out of control with little hope for fixing the situation without structural changes and major hair cuts. Let's look at the debt.

The real problem with debt is servicing it; this is a problem only if interest rates are average or high. Janet Yellen appeared to me to take a hawkish stance in her last Fed meeting presentation. I think that the Fed has had freedom to maneuver in a do-nothing Congress-President environment. The Trump election has probably unnerved the Fed, as there is another very active player entering the field. Janet Yellen has to worry that growth in a tight labor market could lead to significant inflationary pressures. A "do-something" Congress may cause the Fed to tighten more quickly. Before deciding how high-interest rates could go, let's look at a long term chart back to late 1977. I show here the 30-year bond market on top and the Fed fund rates on the bottom.

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I can imagine that the 35-year bond bull market may be finished, note how it broke above its long-term upper channel line and sold off (leading indicator). I include the 88-month moving average, as this line appears to capture the lower trend limits. A decisive break of the 88-month moving average should confirm the move to a bear market for bonds; this will be a lagging confirmation. Shown in the center of the Fed fund rates chart I develop what I am calling the "Greenspan norm" where Fed fund rates cycled between 3% and 7%. Using these figures, I suggest that the Treasury debt servicing rates could climb into the same regime.

The next chart shows the approximate cost of servicing $20 Trillion debt. I am letting alone the issue that there is no real talk about curbing the increase in debt, this will just make the problem much harder.

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Shown is the 2015 debt service cost of $229 billion and the range of $600 billion to $1,400 billion where the costs could rise to by using the Greenspan-rate norm. To understand how much of a disaster this could be, consider that the 2015 Federal expenditures were $3.8 trillion. The range in debt-service costs could move the proportion of total spending from the fourth largest cost to the greatest cost, eclipsing Socal Security, Medicine & Healthcare, and the Military.

So, I see the economic battle lines forming. Reducing corporate taxes from 35% to 15% and reducing regulations could give us a growth, allowing for a 1995 scenario. The 800-pound debt gorilla maybe a wall too high to climb leading to more stagnation.

I have updated the watch lists. I only have one long (GRUB) and one short (FB). On the volume trigger alert list, I add AMAT to GRUB. These are very short lists. If we were entering an accelerating market period, I would expect many growth stocks to come to the surface as buyable candidates. They just aren't there. The finance sector has been a good place to be; they just aren't growth stocks.