Are stocks at the bottom?

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The US economy is finally thawing out. Retail sales for March were out last night rebounded strongly. February was rounded up too (all charts from Calculated Risk):

RetailMar2014

The U.S. Census Bureau announced today that advance estimates of U.S. retail and food services sales for March, adjusted for seasonal variation and holiday and trading-day differences, but not for price changes, were $433.9 billion, an increase of 1.1 percent from the previous month, and 3.8 percent above March 2013. … The January 2014 to February 2014 percent change was revised from +0.3 percent to +0.7 percent

More good news arrived in the budget update:

CBOApr2014

CBO now estimates that if the current laws that govern federal taxes and spending do not change, the budget deficit in fiscal year 2014 will be $492 billion. Relative to the size of the economy, that deficit—at 2.8 percent of gross domestic product (GDP)—will be nearly a third less than the $680 billion shortfall in fiscal year 2013, which was equal to 4.1 percent of GDP. This will be the fifth consecutive year in which the deficit has declined as a share of GDP since peaking at 9.8 percent in 2009.

…CBO’s estimate of the deficit for this year is $23 billion less than its February estimate, mostly because the agency now anticipates lower outlays for discretionary programs and net interest payments. The projected cumulative deficit from 2015 through 2024 is $286 billion less than it was in February.

That was enough to give stocks hope and they managed a firm rally, sold it all, then rallied again into the close. Long bonds eased too. But a chart from BofAML via Zero Hedge gives a good read on where the correction is up to:

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In such an environment, US Treasuries should rally further. Indeed, US 10yr yields have broken below key resistance at 2.608%/2.632%, exposing the long term pivot zone of 2.469%/2.399%. The Japanese ¥ should benefit as well. The 200d in $/¥ is key (100.81) A break below would do significant psychological damage and force out many trend followers.

While US equities have fallen sharply, the VIX index still shows signs of complacency. Historically, most tradable equity bottoms transpire after the VIX Index trades above 20%.

With it currently residing at 17%, the S&P500 can deteriorate further towards 9m trendline support / 200d avg at 1792/1761.

I’d agree with that. The mystery of who is causing the US bond flattening has also been resolved. From JP Morgan via FTAlphaville:

ScreenShot030

…non-bank investors appear to be responsible for most of this year’s bond rally of which retail investors were one. Neither speculative investors, who appeared to have increased their US rate shorts by $110bn duration-weighted YTD, nor banks who, driven by FX managers, sold USTs this year, appear to have caused this year’s bond rally.

…Admittedly this quarterly change looks less steep than before, given the data we received this week on quarterly reporting mutual funds for Q4. The selling in Q4 2013 (-$17bn) now looks a lot more modest relative to Q3 (-$53bn). Despite these outflows, global retail investors bought $185bn of bond funds for 2013 as a whole, driven by previous inflows during the first five months of the year.

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…Overall, the YTD picture of Chart A2 portrays a retail investor who is deploying its excess cash equally between equity and bond funds. In a way from the Great Rotation phase of the second half of last year, retail investors’ flows shifted to an Asset Reflation phase, where both asset classes, equities and bonds, are supported. We think the implications of this shift are twofold: 1) there is no retail flow support for the bearish view on bond markets and 2) there is significantly less retail money flowing into equities than last year.

Fascinating and a very good outcome for the US economy. Rather than blow itself up in a reflation trade that has stocks and interest rates chasing each other higher to an explosion, the humble retail investor and his care to preserve capital, as well as make more of it, is producing an asset reflation cycle that is more sustainable than I feared. The new normal really is preferable, if only policy-maker would leave it alone.

About the author
David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal. He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.