July 5, 2019 –Markets have been stuck in a narrow trading range for the last 18 months, reaching new highs only to retrench amid setbacks. Craig Johnson of Piper Jaffray spoke with Financial Sense to give his take on where markets are headed and why there is reason to be cautious.
Johnson set a target for the S&P of 2,725 by year-end. The trading range is currently sitting between 2,900 on the upper end and around 2,500 on the lower end, he noted. Internals look worse than they did in September 2018 and at that time the market internals were still worse than in January of that year.
Nine of the industry groups Johnson tracks are making new highs, versus 23 making new lows—with only 28 % in an uptrend, he noted. In terms of individual stocks, around a third of the entire market is in any form of an uptrend, Johnson stated, with less than half of all the stocks in industry groups above a 200-day moving average.
“We're pushing this market to new highs and I've got very thin participation,” Johnson said. “That's a recipe very similar to what we saw in September and also in January of last year. That makes me nervous.”
What About Rate Cuts?
The Federal Reserve has been suggesting rate cuts may be imminent and markets seem to be anticipating this. Contextually speaking, Johnson stated, it is important to ask why the Fed is looking to cut rates. If we examine previous rate-cut cycles, and we look at what happened within 13 to 52 weeks following those cuts, we see that in the last three cycles equities produced negative returns, Johnson stated.
It does little good to compare historical rate-cut cycles prior to these last few examples, he added, because the 10-year bond yield figure was much higher than it is currently.
This indicates we were at a different point in the overall cycle. Looking back now, bond yields have steadily declined for the better part of 30 years. Below five percent yields, rate cuts seem to produce a different response than they have historically, Johnson added.
Furthermore, the economy doesn't appear to be in particularly bad shape. He pointed to jobs numbers and GDP figures that seem to be good.
Odds of Recession Growing
Based on market internals, we are likely going to stay within the trading range, Johnson stated. Seasonality suggests we will be strong in the first half of the third year in a presidential cycle—as we are now—leading into weakness in the second half. We’re likely to stay near the middle of the range, Johnson noted, with no new obvious catalyst to break to the top side of the range.
Also, earnings don’t seem to be accelerating. Bonds continue to signal caution, Johnson noted, with the odds of a recession continuing to grow. Right now, he believes it is best to take a more defensive stance and be more conservative going forward. Most new highs in this market over the last 26 weeks have come from gold and silver in North America in addition to utilities and staples on a relative basis.
“The bond market has already priced in two rate cuts at this point in time, and potentially part of a third,” Johnson said. “History has always said that bonds lead equities and we need to listen to that message. I think that's what the smart money is doing. … I guess we can't seem to quite get off of the monetary train that we've gotten ourselves onto, and I don't think it's quite so simple.”