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SITREP for the Week Ending July 10, 2020

Retire Early?

Complications from COVID-19 are known to be more severe in older populations and observers have speculated whether COVID-19 will force or at least encourage older workers to retire as early as they can. Analysts believe the answer is ‘yes’. For many years, financial advisors have been encouraging pre-retirees to wait as long after age 62 as possible before claiming Social Security benefits, in order to maximize the benefits and extend the wage-earning years. Beginning about the year 2000, a steady decline in the percent of 62 year olds claiming social security benefits began, and has since dropped by about half, from the 60% range to the 30% range. During the Great Recession, though, the percentage of 62-year-olds claiming Social Security spiked from 42.2% in 2007 to 46.9% in 2009 before again dropping back to the downtrend. Analysts expect this pattern to repeat itself in the wake of COVID-19. In fact, preliminary data from the monthly Current Population Survey shows that an uptick in earliest-possible retirements and social security claims has already begun. Chart from Center for Retirement Research, Boston College.


In the markets: U.S. Markets:

The major U.S. indexes ended the week mixed, with large caps outperforming small caps. The technology-heavy NASDAQ Composite outperformed the other major indexes by rising 4.0% to a new record high of 10,617. The Dow Jones Industrial Average rose 1.0% finishing the week at 26,075. By market cap, the large cap S&P 500 finished the week up 1.8%, while the mid cap S&P 400 and small cap Russell 2000 retreated -0.3% and -0.6%, respectively. Despite numerous short bursts of out-performance, small and mid caps have yet to mount a sustained period of out-performance and remain substantially negative for the year to date at -14.7% for the Russell 2000 small cap index and -14.1% for the S&P 400 mid cap index.


International Markets:

International markets also finished the week mixed. Canada’s TSX finished up 0.8%, while the United Kingdom’s FTSE 100 ended down -1.0%. On Europe’s mainland, France’s CAC 40 ended down -0.7%, while Germany’s DAX added 0.8% and Italy’s Milan FTSE rose 0.2%. In Asia, China’s Shanghai Composite surged 7.3%, its fourth consecutive week of gains, following a front-page editorial in the China Securities Journal, which stated “fostering a healthy bull market after the pandemic is now more important to the economy than ever.” Japan’s Nikkei ticked down -0.1%. As grouped by Morgan Stanley Capital International, developed markets finished the week up 0.9% while emerging markets surged 4.5%.


Commodities:

Precious metals continued their run with Gold rising for a fifth consecutive week, up $11.90 to $1801.90 an ounce. Silver finished the week up 4% to $19.05 an ounce. Oil finished the week down slightly to $40.55 per barrel of West Texas Intermediate crude, a decline of -0.3%. The industrial metal copper, viewed by some analysts as a barometer of global economic health due to its wide variety of uses, surged 5.4% last week. Copper has now advanced for eight consecutive weeks and has only had three down weeks since bottoming in late March.


U.S. Economic News:

The number of Americans seeking first-time unemployment benefits fell to a four-month low, but layoffs still remain far above their average level at the beginning of the year. The Labor Department reported initial jobless claims fell 99,000 last week to 1.314 million. It was the fourteenth decline in a row. While below the forecast of 1.388 million, claims remain high and more than double the peak reached during the financial crisis of 2008. Continuing claims, which counts the number of Americans already seeking benefits, fell by 698,000 to 18.062 million. More than 50 million new claims have been filed since mid-March. Before the pandemic the states processed fewer than 225,000 claims a week.


The services part of the economy roared back in June as businesses were allowed to reopen, pointing to a gradual recovery after the extended coronavirus lockdowns. The Institute for Supply Management (ISM) reported its index of non-manufacturing companies surged a record 11.7 points to 57.1—well above the consensus forecast of 50.1. The index hit its highest level since February, before the shutdown of the economy in response to COVID-19. Analysts noted that the reading confirms economic activity is rebounding, and that the recession that started in February has likely ended. Similarly, research firm Markit reported its U.S. Services Purchasing Managers’ Index (PMI) rose 10.4 points in June, to 47.9. Unlike the ISM index it remained below 50, but nonetheless showed significant improvement from just a few months ago. The services side of the U.S. economy is huge, employing more than 80% of all American workers.


At the wholesale level, the cost of goods and services fell last month, reflecting the depressed demand in retail and other parts of the economy. The Bureau of Labor Statistics reported the Producer Price Index declined -0.2% last month. Economists had expected a 0.4% increase. Wholesale inflation has fallen -0.8% over the past year. In contrast, wholesale inflation was rising at a 1.6% annual pace just a year ago. Another measure of wholesale inflation known as core PPI, which excludes food, energy, and trade margins, rose 0.3% last month. It was the biggest increase since January. Analysts note that despite the Federal Reserve pumping huge sums of money into the economy, inflation is likely to remain low until the crisis is over. Lydia Boussour and Gregory Daco at Oxford Economics wrote in a research note, “The PPI decline confirms inflation should be the least of our worries.”


Senior Federal Reserve officials stated unemployment is likely to remain high despite the surge in rehiring and that the central bank may have to do more to help the labor market. San Francisco Fed President Mary Daly noted the coronavirus pandemic has decimated key parts of the economy such as travel, tourism, hotels, restaurants, and retail. Those industries lost millions of jobs in the early stages of the pandemic, and few have come back so far. In a virtual chat held by the National Association of Business Economists, she stated “I am assuming [unemployment] will level off at someplace we don’t want to be.” Thomas Barkin, president of the Richmond Federal Reserve, concurred. “I don’t believe my favorite restaurant will be back to full staff. I don’t think my favorite retailer will be back to full staff.”


International Economic News:

A report from macroeconomic research firm MRB Partners states Canada’s economy is headed for a long, difficult period catalyzed by the effects of COVID-19 and driven by pre-existing structural weaknesses, especially in the housing market. MRB states Canada has followed global trends in falling into a ‘sudden stop’ recession with high unemployment and a plunge in activity. It says that Canada is more exposed than most economies, however, because of “an unstable real estate bubble and household credit binge.” MRB’s founding partner Phillip Colmar warned, “Canadians have been living beyond their means to have a lifestyle they cannot afford on their existing incomes. Fixing household balance sheets will mean that Canadians will need to repay this growth to their children by spending below their means for a prolonged period, a process that usually keeps economic growth subdued for a decade,” he wrote.


Across the Atlantic, United Kingdom Finance Minister Rishi Sunak unveiled another $37.6 billion coronavirus stimulus package aimed at stemming Britain’s growing job crisis and lifting the economy out of its worst slump in centuries. Speaking in parliament, Sunak said significant job losses were the most “urgent challenge” the UK economy faces. To combat this, he announced a package of tax breaks, restaurant discounts, and job programs designed to bolster employment. The coronavirus pandemic has plunged Britain into its worst recession in 300 years, with the economy on track to shrink by a whopping 14% this year, according to the Bank of England. It also has fewer than six months to sign a new trade deal with the European Union, its biggest export market. Paul Dales, chief UK economist at Capital Economics doesn’t expect economic output to fully recover until early 2022.


On Europe’s mainland, France’s national statistics office INSEE unveiled survey data that showed there is a chance the country’s economy could return to pre-coronavirus levels by the end of the year. INSEE’s latest economic forecasts show a strong 19% rebound in gross domestic product in the third quarter of this year. Nevertheless, with the output lost during the lock-down that stretched from March into May, the French economy is heading for a 9% drop for the year, "the strongest contraction since national accounts began to be compiled in 1948".


German Economy Minister Peter Altmaier said Germany’s economy may recover from the coronavirus pandemic starting in October. “I am sure that the downturn of our economy can be stopped after the summer break and that from October onwards, the economy can start growing again in Germany,” he told Bild am Sonntag. While the economy would shrink by 6% in 2020, growth by over 5% would be possible in 2021, Altmaier said. His goal was to reach the level that pre-pandemic employment by 2022, and to start heading for regaining full employment after that date, he said.


China’s currency rose to its strongest level since March as a surging stock market and accelerating economic recovery galvanized investors. The renminbi, which has risen steadily since late May, broke through the seven-to-the-dollar level for the first time in four months. The ascent came alongside the dramatic rally in Chinese equities. The rise past seven-per-dollar caps a significant turnaround for the renminbi, which became a focal point in the long-simmering trade war between the US and China last year. Chinese authorities had defended the renminbi weakening beyond seven until last summer, when the People’s Bank — which sets a midpoint around which the renminbi can trade by 2% in either direction against the dollar — let the rate sink to levels last seen in the global financial crisis.


Japan’s economy will shrink at the fastest pace in decades in the year through March 2021, a Reuter’s poll showed. Many respondents predicted the Bank of Japan's (BOJ's) next policy step would be to expand stimulus, but they do not see the pandemic triggering a banking sector crisis this year. The world's third-largest economy is forecast to contract 5.3% this fiscal year, the poll of over 30 economists shows, the most it has shrunk since comparable data became available in 1994. It will rebound 3.3% next year, according to the poll. Atsushi Takeda, chief economist at Itochu Research Institute wrote, "It would take two to three years for economic activity to return to normal levels in Japan as its overseas markets are likely to continue suffering from the spread of the virus."


The very big picture (a historical perspective):

The long-term valuation of the market is commonly measured by the Cyclically Adjusted Price to Earnings ratio, or “CAPE”, which smooths-out shorter-term earnings swings in order to get a longer-term assessment of market valuation. A CAPE level of 30 is considered to be the upper end of the normal range, and the level at which further PE-ratio expansion comes to a halt (meaning that further increases in market prices only occur as a general response to earnings increases, instead of rising “just because”). The market was recently at that level.


Of course, a “mania” could come along and drive prices higher - much higher, even - and for some years to come. Manias occur when valuation no longer seems to matter, and caution is thrown completely to the wind - as buyers rush in to buy first, and ask questions later. Two manias in the last century - the “Roaring Twenties” of the 1920s, and the “Tech Bubble” of the late 1990s - show that the sky is the limit when common sense is overcome by a blind desire to buy. But, of course, the piper must be paid, and the following decade or two were spent in Secular Bear Markets, giving most or all of the mania-gains back.



Current reading: 29.87

See Fig. 1 for the 100-year view of Secular Bulls and Bears. The CAPE is now at 29.87, up from the prior week’s 29.35. Since 1881, the average annual return for all ten-year periods that began with a CAPE in the 20-30 range have been slightly-positive to slightly-negative (see Fig. 2).


Note: We do not use CAPE as an official input into our methods. However, if history is any guide - and history is typically ‘some’ kind of guide - it’s always good to simply know where we are on the historic continuum, where that may lead, and what sort of expectations one may wish to hold in order to craft an investment strategy that works in any market ‘season’ … whether current one, or one that may be ‘coming soon’! The big picture: As a reading of our Bull-Bear Indicator for U.S. Equities (comparative measurements over a rolling one-year time-frame), we remain in Cyclical Bull territory. The complete picture: Counting-up of the number of all our indicators that are ‘Up’ for U.S. Equities (see Fig. 3), the current tally is that four of four are Positive, representing a multitude of time-frames (two that can be solely days/weeks, or months+ at a time; another, a quarter at a time; and lastly, the {typically} years-long reading, that being the Cyclical Bull or Bear status).

(Sources: All index- and returns-data from Yahoo Finance; news from Reuters, Barron’s, Wall St. Journal, Bloomberg.com, ft.com, guggenheimpartners.com, zerohedge.com, ritholtz.com, markit.com, financialpost.com, Eurostat, Statistics Canada, Yahoo! Finance, stocksandnews.com, marketwatch.com, wantchinatimes.com, BBC, 361capital.com, pensionpartners.com, cnbc.com, FactSet.)

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