Stock market on December 18, 2017: thoughts and outlook


*These are my short term discretionary thoughts on the market. My model determines my trades.
Go to the homepage for my latest market outlook. I update this webpage throughout the day.

Stock index & news

  1. “Buy the rumor, sell the news” for the Republican tax cut
  2. Rising Treasury yields is not a risk to the U.S. stock market
  3. Good Trump in 2017, Bad Trump in 2018: How this will impact the U.S. stock market

4 pm: “Buy the rumor, sell the news” for the Republican tax cut
The tax cut will probably pass Congress by the end of this week. Already, some analysts are saying that investors/traders should “buy the rumor, sell the news” when this tax cut is officially announced.
This tax cut definitely benefits the U.S. stock market in the long run: it boosts corporate earnings.  But in reality, we have no idea how the S&P 500 will react to the tax cut news in the short term. The “buy the rumor, sell the news” adage doesn’t really apply to the U.S. stock market. The stock market’s reaction to the news is often completely random. The stock market goes up on 60% of days. So the old adage should be changed to “buy the rumor, buy the news too”.
The bottom line is simple. The short term is unknowable, and you have no idea how the U.S. stock market will react to the tax cut announcement.
If I had to guess, I think the U.S. stock market will go up in the short term after the tax cut is announced. Investors/traders are buying every single dip, and I don’t see why they would “sell the news”. This is a fundamentally bullish news.
Combine this tax cut announcement with the Santa Claus Rally, and you can see why the stock market will probably go up during these last 2 weeks of December.
2 am: Rising Treasury yields is not a risk
Here we go again with financial dogma. “A rising 10 year yield is the biggest potential threat to U.S. stocks in 2018” according to a portfolio strategist. Theoretically, rising interest rates should hurt the U.S. consumers, corporate borrowers, and the U.S. stock market. Reality proves otherwise.
The medium-long term correlation between Treasury yields and the U.S. stock market is non-existent.

  1. Sometimes the stock market will go down when yields rise.
  2. Sometimes the stock market will go up when yields rise.
  3. Sometimes the stock market will be flat when yields rise.

Ultimately, it’s the economy and not interest rates that determines the U.S. stock market’s medium-long term direction. Focus on the economic data and not interest rates. Interest rates is just one of many factors that impacts the economy. Interest rates don’t have as big of an impact on the economy as economic theory would have you believe.
Here are some examples.
10 year yield from 2002-2006.

S&P 500 from 2002-2006. Notice how the S&P went up while interest rates went up.

Here’s the Treasury yield.

Notice how the S&P went down during 1994, but went up in 1999 (both cases when yields rallied).

Yields went up from February-October 1987. The S&P went up at first and then crashed.
The S&P was flat when yields went up from mid-1983 to mid-1984.

The S&P went up in the late 1970s when interest rates skyrocketed.

2 am: How Bad Trump will impact the U.S. stock market in 2018
*When I refer to “Good Trump, Bad Trump”, I’m talking about his economic/corporate policies. I’m not referring to his social policies or his character.
Trump clearly has 2 sides to his business/economic policies. There’s a Good Trump and a Bad Trump. The Donald has an innate need to be semi-destructive. He believes that destroying the old world order can help him Make America Great Again. Whether you or I agree with his policies is irrelevant. It is what it is.

  1. 2017 has primarily been about Good Trump. “Good Trump” in 2017 has been about cutting corporate taxes and reducing regulation, which boosts corporate profits and therefore stock prices.
  2. We are seeing the re-emergence of “Bad Trump”, which I think will fully reveal itself in 2018.

Trump has been strangely quiet after May 2017 about trade wars, NAFTA, and China. Trump is smart. He played Good Trump in 2017, and plans to play Bad Trump in 2018.
Good Trump policies (i.e. tax cut) needed Congressional approval. That’s why he did his Good Trump policies in 2017, while Republicans still control both chambers of Congress.
*Trump’s infrastructure plans aren’t happening in 2018.
Bad Trump policies (i.e. trade war) DON’T need Congressional approval. Trump will likely accuse China of engaging in “economic aggression” when he unveils his national security strategy today.

  1. Renegotiating trade agreements like NAFTA usually requires Congressional approval.
  2. But by declaring trade a matter of “national security”, he can renegotiate these deals on his own, WITHOUT Congress.

Trump’s focus in 2018 will be on the trade balance with China, Mexico, Canada, etc.

  1. Trump has become significantly more aggressive to China. Trump will accuse China of “economic aggression” today. (See Financial Times report)
  2. The U.S. review of NAFTA vs Canada/Mexico will be completed by March 2018, after which Trump can choose to renegotiate or leave NAFTA.

These upcoming trade wars will not damage the U.S. in the long run because the U.S. will ultimately win. The U.S. has more leverage than China, Mexico etc because the U.S. is a net importer! However, I believe that these upcoming trade wars will add volatility to the U.S. stock market in the medium term. They may even trigger a 6%+ “small correction” (see here).

Conclusion

Here’s what I think will happen in terms of my short term discretionary outlook.

  1. I think the S&P will make a small 6-10% correction in Q1 2018.
  2. Then the S&P will make a new high, before making a multi-month consolidation or multi-month “small correction” in the 2nd half of 2018.
  3. 2018 will be much chopper than 2017. As of October 2017, this is the longest rally in history without a 6%+ “small correction”. If you haven’t already, please read What will the S&P do after rising 8 consecutive months.

I do not use my discretionary outlook to trade. I remain 100% long UPRO because my Medium-Long Term model does not foresee a significant correction at this point in time. I ignore small corrections. I only sidestep significant corrections and bear markets.
I have been 100% long UPRO since September 7, when the S&P was at 2465 and UPRO was at $109.3
*I also have a small Day Trading portfolio. Click here to view my day trades.

2 comments add yours

  1. U posted a blog about how the market usually trades down 2 weeks on post fomc meetings. We are rallying to new highs each day since the fomc meeting. Is this perhaps an outlier year to this study?

    • Yes. The smaller the study and the fewer historical cases, the less relevant. Also short term studies are less relevant than long term studies.
      The FOMC study was only based on the past few rate hikes in this rate hike cycle. Not all historical rate hikes.

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