S&P 500 will struggle to break 2100

By Colin Twiggs
April 7, 2016 6:00 p.m. AEST (4:00 a.m. EDT)

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The S&P 500 is headed for a test of resistance at 2100, buoyed by indications that the Fed will not raise interest rates for at least two months. 13-week Twiggs Momentum lifted its nose above the zero line. Not quite a recovery but an improvement on its recent performance. Reversal below 2000, however, would warn of another test of primary support at 1820 to 1870.

CBOE Volatility Index (VIX) at 14 indicates that (short-term) market risk has eased.

So why the skepticism? To give a balanced view I will start with the positives.

Positive

Construction spending is on a tear.

Consumer sentiment is OK.

ISM Manufacturing PMI Composite recovered above 50, indicating expansion, after its recent scare.

GDP growth is low but expected to hold above 2.5% per year. Here I estimate total weekly earnings of nonfarm employees (blue line) to project the likely path of GDP growth.

And retail sales growth (ex Autos) is at least matching core inflation after its recent contraction (in real terms).

Not-so-positive

All looks rosy so far, but light vehicle sales — a useful indicator of longer-term consumer confidence — are falling.

Business sales growth turned up in January but is still below zero.

The yield curve is flattening. Illustrated here by the differential between 10-Year and 3-month Treasury yields. If this gets near zero, banks stop lending and a recession (gray bars) soon follows.

You can already see currency growth, measured in real terms after deducting core CPI, starting to fall.

Surely the all-powerful Fed will step in and fix this. Based on past performance, it is likely to register as "Collateral Damage".

Negative

I think we are in for a tough earnings season. Profit margins to the fourth quarter of last year were down 20 percent year-on-year. Note the relationship between this level and past recessions (gray bars).

Some activity indicators like electric power generation have recorded nasty falls. That cannot be simply ascribed to an increase in solar panels.

Pressure on the banks is also rising, with the flattening yield curve compressing interest margins. When margins narrow, the risk-reward payoff gets skewered and banks are reluctant to lend, precipitating a contraction.

Well, the earnings season is upon us and will soon either confirm or disprove my bearish view of the market.

A wise man proportions his belief to the evidence.

~ David Hume (1711-1776)

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