U.S. stock market on June 16, 2017: thoughts and outlook


*These are our short term thoughts on the market. We combine our medium-long term model and discretionary outlook when making investment decisions. We’re looking at how the market reacts to news, earnings, and other fundamental themes related to the key individual sectors.
Go to our homepage for our latest market outlook.

Stock index & news

Quadruple witching
Today was quadruple witching.

Quadruple witching is an options expiration date in which index futures, index options, stocks options and stock futures all expire on the same day. Quadruple witching happens on the third Friday of March, June, September, and December (i.e. last month of each quarter).

Some traders think that quadruple witching is bearish for stocks. That’s simple not true. In fact, quadruple witching days are no different from non-quadruple witching days. Quadruple witching days haven’t even been notably more volatile than non-quadruple witching days. Here are some recent examples.
March 17, 2017
S&P had a quiet day this Friday. The High-Low range was only 8 points. The S&P fell a little next Monday and Tuesday.
December 16, 2016
S&P had a quiet day as well. The High-Low range was 14 points. The S&P was pretty much flat for the next few days.
September 16, 2016
The S&P had a quiet day in which the High-Low range was 15 points. The next 2 days were flat as well.
June 17, 2016
The S&P had a quiet day in which the High-Low range was 16 points. The S&P went up a little bit over the next 3 days.
March 18, 2016
The S&P went up a little. The High-Low range was 9 points. Then the S&P went flat the next 2 days.
You can see why we completely ignore Quadruple Witching. It has no impact on the medium term. I don’t know where the “quadruple witching can be bearish for stocks” argument came from. The financial media likes to sensationalize stories with headlines such as “the day of the witch is bearish for stocks”. In fact, the media has been talking about quadruple witching for decades (we’ve gone through decades of Wall Street Journals). There was almost no correlation between quadruple witching dates and the S&P’s short-medium term performance.
Small deterioration in U.S. economic data.
U.S. economic data has weakened a little bit and continues to miss analysts’ expectations. Housing data was weak today. Here’s  the Citigroup Economic Surprise Index, which continues to fall.

We explained that based on where the Citigroup Economic Surprise Index is today, the S&P should begin a small correction within 4 months.
Here’s a review of this week’s economic data.

  1. Retail Sales ex-gas was -0.1%. Retail Sales ex-auto was -0.3%.
  2. CPI was -0.1% (due to a 10% fall in oil prices). Core CPI was flat.
  3. Initial claims continue to fall. This is the one bright spot in this week’s data.
  4. Industrial Production saw zero growth.
  5. Housing Starts and Building Permits tanked much more than expected.

However, the recent weakness is transitory and cannot stop this bull market.

  1. In order for a bear market to develop, the economic data needs to deteriorate significantly. We are far from there yet.
  2. We have contacts in key industries who have solid track records. Based on their information, it’s safe to say the recent weakness in economic data is transitory. The economic data tends to deteriorate during the summer, followed by a bounce in fall.

Strong earnings growth.
Aside from economic data, earnings growth is also important when deciding whether it’s a bull market or bear market.
The S&P’s 12 month forward earnings estimates are growing like crazy. Actual earnings and forward earnings estimates usually move in tandem.
Right now, 12 month forward earnings is growing at around $0.3 – $0.4 per week. This averages to about 0.3% per week, or a 15% annualized rate! This is some of the strongest earnings growth we’ve seen in years.

  1. The tech sector’s earnings are growing significantly. Tech is the S&P 500’s biggest sector.
  2. From 2015-2016, the energy sector’s losses dragged down the S&P’s earnings. With shale costs coming down, many U.S. energy companies are profitable at $40 a barrel. This means that energy sector earnings are soaring from 2016-levels.

Here’s a long term earnings chart from Yardeni.

In the next few quarters (particularly Q3 and Q4 2017), U.S. corporate earnings will be given an extra boost by the declining U.S. dollar. Companies hedge most of their foreign earnings in the forex market, so some of the recent weakness in the USD won’t benefit corporate earnings in Q2 2017.

Bottom line

Our model says that this is still a “big rally within a bull market”. There is no significant correction on the horizon. Our model has only failed to predict 3 of the S&P’s significant corrections since the S&P’s inception. (Actually our model only failed to predict 2, but we wanted to underfit the data and leave some margin of error in the model).
Click below to find out our model’s value right now (updated on June 16). If you don’t have social media, feel free to contact us and we’ll email you with our model’s value.
Our model’s value is 35 as of June 16, 2017. The model’s value was 36 last week. This means that the next significant correction is still far away, and becoming farther. The model is updated daily. We post the model’s value here once every week.
We’re still waiting to buy when the S&P makes a 6% “small correction”. We sold our UPRO (3x S&P 500 ETF) when the S&P was at 2392. As long as the S&P doesn’t rise above 2544, the next 6% correction will bring the S&P below our sell-price.
Who knows when the S&P’s small correction will begin. Perhaps it already has begun. But regardless of the exact date, it’s coming soon.

Sectors

Energy
Over the past week, the energy sector was much stronger than both oil and the S&P. This is a notable change from the past few months in which the energy sector was weaker than both oil and the S&P. The energy sector is starting to mean reverse.
WTI oil went up a little bit today, but XLE (energy ETF) jumped. The energy sector should lead the S&P’s advance in the next leg of this “big rally”. (This is just a guess. We don’t trade XLE.)
Here’s WTI.

Here’s XLE.

Finance
The finance sector fell a little because interest rates fell a little. There’s nothing unusual here.
Here’s XLF (finance ETF).

Here’s the 10 year Treasury yield.

Tech
After a massive year-to-date rally, the tech sector has made a large pullback this week. This is normal. No rally goes up in a straight line.
The tech sector rarely leads the S&P’s corrections. The last time it did so was September 2012.
Here’s XLK (tech ETF).
 

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