Weekly Market Summary

Blogging will be light for another few weeks. We should be back with regular posts in early November.

In four different posts in August and September, we laid out how we expected this correction to evolve. You can read them here.

Not much has changed in our views. Here's a brief update.

Trend
We know that waterfall events take weeks to work through. Over time, a new base is formed. That is what we have seen transpire over the past two months.

Overall, the current pattern is better than the 2011 one it is most often compared to. The mid-September low was higher that the original low. In between and since then there have been higher highs. This didn't happen in 2011; there were lower lows and lower highs. Buyers were not in control. They are now and this is a positive.

Our view has been that accumulating SPY in 185-190 would offer an attractive risk/reward. SPX has twice risen 8-10% off the lows in this area.  That's been a good trade with minimal risk.

Business Insider: Top Finance People to Follow

Many thanks to the people at Business Insider for including us in their annual list of the Top Finance People to Follow for a third year. The full list is here.

Fund Managers' Current Asset Allocation - October

Summary: Overall, fund managers' asset allocations in September indicated the strongest bearishness since 2012. Despite a rally since then, bearishness remains pervasive. This is a bullish tailwind for equities, especially in the US.

Fund managers' cash remains at the highest levels since the panic of 2008-09. This is normally contrarian bullish.

Moreover, allocations to equities remain near the lowest levels in the past 3 years, levels at which prior lows in price have formed.

One concern is that fund managers remain very overweight "risk on" sectors: allocations to discretionary, banks and technology are above their means. Allocations to defensive sectors, like staples, are still low. In other words, there's a chance fund managers will make a further run to safety in the coming month(s).

Regionally, allocations to the US and emerging markets are at low levels from which they normally outperform on a relative basis.

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Among the various ways of measuring investor sentiment, the BAML survey of global fund managers is one of the better as the results reflect how managers are allocated in various asset classes. These managers oversee a combined $600b in assets.

The data should be viewed mostly from a contrarian perspective; that is, when equities fall in price, allocations to cash go higher and allocations to equities go lower as investors become bearish, setting up a buy signal. When prices rise, the opposite occurs, setting up a sell signal. We did a recap of this pattern in December (post).

Last month, fund managers held 6-year high levels of cash and 3-year low levels of equities: a strong contrarian buy signal. The US and emerging markets were especially underweighted. Since then, SPX is up 5% and EEM is up about 10% (post).

Let's review the highlights from the past month.

Fund managers cash levels remained over 5% for a fourth month, the first time it's been this high for four months in a row since late-2008 and early-2009. This is an extreme and it's normally very bullish for equities (green shading).

October Macro Update: Employment Wasn't Surprisingly Weak

Summary: This post reviews the main economic data from the past month.  The balance of the data continues to be positive. There is little to suggest the imminent onset of a recession.

• Employment growth is close to the best since the 1990s, with an average monthly gain of 229,000 during the past year.  
• Compensation growth is positive but not accelerating: 2.2% yoy in September.
• Personal consumption growth the last two quarters has been the highest in 8 years.  2Q15 real GDP grew 2.7%, near the upper end of the post-recession range. 
• Housing starts and new home sales are near an 8 year high. 

The main negatives are:

• Core durable goods growth fell 4.5% yoy in August. It was weak during the winter and there has been little rebound since. Industrial production has also been weak, growing at just 0.9% yoy, one of the lowest rates in the past 15 years. 
• The core inflation rate remains under 2%. It is near its lowest level in the past 3 years.  

Bottomline: the trend for the majority of the macro data remains positive. The pattern has been for the second half of the year to show increased strength. That appears to be the case in 2015 as well.

Prior macro posts from the past year are here.

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Our key message over the past year has been that (a) growth is positive but modest, in the range of ~3-4% (nominal), and; (b) current growth is lower than in prior periods of economic expansion and a return to 1980s or 1990s style growth does not appear likely.

Modest growth should not be a surprise. This is the typical pattern in the years following a financial crisis like the one experienced in 2008-09.

This is germane to equity markets in that macro growth drives corporate revenue, profit expansion and valuation levels. The saying that "the stock market is not the economy" is true on a day to day or even month to month basis, but over time these two move together. When they diverge, it is normally a function of emotion, whether measured in valuation premiums/discounts or sentiment extremes.

Let's review each of these points in turn. We'll focus on four categories: labor market, inflation, end-demand and housing.


Employment and Wages

The September non-farm payroll was 142,000 new employees minus 59,000 in revisions. In the past 12 months, the average gain in employment was 229,000, close to the highest since the 1990s.

Monthly NFP prints are normally volatile. Since 2004, NFP prints near 300,000 have been followed by ones near or under 100,000. That has been a pattern during every bull market; NFP was negative in 1993, 1995, 1996 and 1997. The low print of 119,000 in March, as well as the 'disappointing' print this month, fit the historical pattern. This is normal, not unusual or unexpected.