Did you know half the world's pigs live in China? Apparently, President Trump did and decided to vent. Let me explain ...
Six trading days ago, on Friday, the market closed at all-time highs. Coincidentally, headlines were heating up about Trump's tax information and his paltry $1.17 billion loss. This maneuver for "tax purposes" spanned nine years between 1985 and 1994. At some points, Trump claimed more losses than any other individual taxpayer. Love him or hate him, this is a guy who knows how to work the system.
Here's my point: when the screws tighten on Trump, he's a master deflector. Last weekend found Trump in the crosshairs for massive tax losses, Attorney General Barr being held in contempt, his son being subpoenaed and scrutiny over his pardons. Insert a trade war inflammatory tweet on a Sunday, and you get a perfect shift of focus … and boom, we get a market reaction.
Our new market norm (for now) is a period of low volatility followed by excessive volatility. It's not perfect, but the CBOE Volatility Index (VIX) can illustrate the point. Typically, when the VIX troughs, it coincides with market highs. When the VIX spikes, it coincides with sharp market drops. Like this:
On April 18, the VIX hit a near-term low of 12.09. Earnings season kicked up volatility, and then Trump's trade tweet-a-thon sent the VIX surging to a May 7 spike of 19.32. Now, this is where the media loves to become statisticians. This is where you'll see something like this: "VIX Spikes 60% as Trade Worries Roil Markets!” Snappy headline, right? I made it myself.
Technically, it's true, but it coincided with a fall in the S&P of 3.74% for the week. That's ugly in isolation, but the S&P 500 peaked at a 25.3% rally from Dec. 24 lows. It now sits 22.6% higher than Christmas. Some giveback is forgivable, especially during earnings agitated by trade rhetoric.
Note: this was the first week of decent selling since January. It was even across sectors, and sells outnumbered buys more than two to one. If the market weren't at highs, this might be troublesome. But with so many stocks extended, breaking recent lows on any spike in volume is not hard to do.
The following chart breaks down the big buying and selling we're seeing in the market by market capitalization.
Chinese President Xi says that the trade deficit is the lowest in three years – and yes, Trump is saying he wants better. But I think this trade war is about 5G. If you want fast download over wireless networks, then 4G won't cut it. 5G will bring speed and usher the next tech boost for the information age.
When it comes to 5G, the United States wants to win – or at least have favorable trade terms. This may account for the monstrous bump in software and semiconductors since Christmas. The market assumed a trade resolution, and investors piled into tech that would benefit the most from a deal. Semis and software enable 5G to be embraced by both superpowers together. Even Apple Inc. (AAPL) became a believer when it set aside its differences with Qualcomm Incorporated (QCOM) to work together for the coming of 5G.
So am I worried about this latest market chop? Well, the data says not to be. It also tells me to buy the dip. First thing first: Trump and Xi may both want to look like winners, yet neither can afford too much pride. Trump has a re-election campaign soon. He doesn't want to be perceived as derailing our economy. Xi needs us as a trading partner to avoid sending China's economic growth into a tailspin. We need each other!
Next, when markets freak out, interest rates drive lower as capital flees into bonds. Ironically, stocks become more compelling. As I pointed out, dividends are taxed at long-term rates of 23.8%, while bond interest is taxed as ordinary income: 40.8%.
Next, sales and earnings are juicy! FactSet says that, for the first quarter of 2019 (with 78% of the S&P 500 reporting), 76% reported positive surprises on earnings per share, and 60% reported positive revenue surprises. The first quarter blended revenue growth rate is 5.2%.
Next, market dips keep getting bought. This is different behavior than what we saw late last year. Look at the five-day intraday price action of the S&P 500:
Also, stock buybacks are kicking. The first quarter of 2019 alone saw $227 billion of buybacks. We should see more as earnings season winds down. Remember, when a company announces a buyback, it doesn't have to buy, but companies want to do so when prices fall.
Finally, bull markets need periods to retreat, coil up and power higher. Don't give into the fear-mongering news. This is a clear congestion point spurred by a mid-earnings trade tweet. But the media will seize the opportunity to fan the flames because they know that we humans can't resist emotion over logic. It's not unlike when security specialist and cryptographer Bruce Schneier said: "The user's going to pick dancing pigs over security every time."
The Bottom Line
We (Mapsignals) continue to be bullish on U.S. equities in the long term, and we see any pullback as a buying opportunity. Technology and industrials stocks see the most unusual buying, making the sectors best in class.
Disclosure: The author holds a long position in Qualcomm and no position in Apple at the time of publication.