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Bull Rebuttal

Courtesy of ZeroHedge. View original post here.

Authored by Sven Henrich via NorthmanTrader.com,

All fear has left markets again as markets have rallied steadily into early June. $VIX has printed an 11 handle again, tech and small caps are making new highs. Optimism is back in full swing and right here and now bulls are coming out in full swing.

Notably Tony Dwyer of Canaccord Tenuity appeared on CNBC Fast Money last night and highlighted his reasons for raising his S&P target to 3,200 by the end of the year.

Tony is highly respected but I wanted to stress test his arguments a bit as optimism is again becoming so pervasive. And full disclaimer upfront: I’m not writing this piece to be critical of Tony nor do I make claim that his thesis is wrong, indeed for all I know his price target may come to fruition.

From our perspective the potential technical target zone of $ES 3043 we discussed in January is still a potential target.

And let’s not forget the unofficial QE program of 2018 (buybacks) keeps a firm artificial bid under the market with record buybacks recorded in Q1 alone and much more to come for an estimated total of $650B in 2018:

However I found some inconsistencies in the logic of the arguments presented and hence I wanted to offer a rebuttal. Respectfully, balanced and data driven hopefully.

First off here’s the clip with Tony making the bull case:

.@dwyerstrategy showing his horns today, becoming the biggest bull on Wall Street! Here's what has him most excited about the market pic.twitter.com/zniTw8KfdN

— CNBC's Fast Money (@CNBCFastMoney) June 5, 2018

Tony’s first line of argument: Strong GDP growth and optimism, i.e., by CEOs.

He cited the Atlanta Fed as projecting nearly 5% GDP growth for this quarter. This is correct:

My rebuttal here: Blue Chip consensus is not anywhere near this figure and resides around 3.2%. That’s a big gap which I think deserves mentioning especially in light of the Atlanta Fed’s forecasting history.

Take Q1 as an example:

The Atlanta Fed GDP model is notorious for overstating and then revising lower.

Look, there’s no doubt Q2 GDP will be higher than Q1, it historically is, and we may see a fairly large print, but none of this is unknown and to cite the high estimate by the Atlanta Fed, which is far above street consensus as the benchmark, could be viewed as cheerleading.

Secondly Tony mentioned high optimism by CEOs. This is correct as well:

Indeed CEO optimism just came off a record high. The last time these readings produced a similar result was in early 2011.

Was record CEO optimism in 2011 predictive of positive market results to come?

I submit it wasn’t:

Unless you didn’t mind riding out a 20% correction in the summer and fall first.

Tony’s thesis is that CEO optimism is a reason to be bullish. Yet he was asked about slowing growth in Europe. His response indicates he thinks this is also a reason (from a contrarian perspective) to be bullish as well. With all due respect I find that logic to be circular as it suggests that both optimism and pessimism are bullish.

Fact is the slowdown data is real:

Why is unknown is what the impact of slowing growth in Europe and slowing global trade will be on earnings:

These are not fictitious numbers, this is reality.

As is the market trend in slowing consumer spending outlook:

Which brings me to Tony’s next argument: Earnings. He’s moved his earnings estimate from $155 to $160 which is a 3% increase.

Three points:

Firstly, by increasing his earnings estimate Tony appears to negate all the data above. I don’t claim to know what the impact on earnings will be, but it strikes me as not immaterial, especially in context of rising tariffs and a tight labor market. To me this suggests risk to earnings expectations priced to perfection and then some.

Second, it is true that non GAAP profits are very high this year, yet 70% of earnings growth (according to Goldman Sachs) is due to buybacks and tax cuts.

The GAAP corporate profit growth picture is far less impressive:

Third, a 3% increase, which may well happen, is actually not that dramatic in context of already baked in expectations, knowing the vast majority of all this is coming from tax cuts and buybacks.

And then Tony makes an interesting admission: He expects earnings growth in 2019 to be only 5%. Assuming of course nothing bad happens. How do you maintain 24/25 P/Es with a mere 5% forward earnings growth picture?

His final argument: Newsletter writers went from 66% bullish to 50% bullish and that supports the argument for markets to fly 20% higher from here.

Doug Kass chimed in on this one with a pertinent question:

@dwyerstrategy To my pal Tony Dwyerama – if you say newsletter writers make hyperbolic statements ("the end is near") to sell their products – why is a +20% move in the next six months (when the fundamentals are already known) not a hyperbolic statement (to the upside)?

— Douglas Kass (@DougKass) June 5, 2018

If newsletter writers (whoever they may be) are to be representative of poor sentiment then I can’t see it in the data.

In fact complacency appears back in full swing as we can see by the put call ratio prints yesterday:

Some of the weakest readings of the year consistent with what we saw near previous market peaks earlier this year.

Looking at the Rydex bull/bear ratio we see a market that is already max bullish allocated:

And if there is worry or pessimism on the side of investors it certainly is not reflected in the most recent ETF allocation data:

So take it for what it’s worth, but I see gaps in the bullish narrative and a circular logic in the face of the data. Tony appears to see little risk, only upside, good news is good news and bad news is good news too.

And that is the bull case in a nutshell.

And, to be fair, this is how the market is currently acting, after all slowing growth, trade wars, etc. have not mattered.

In light of all this I must ask: If, on the one hand things are so rosy and earnings and growth are so fantastic then why, on the other hand, do we hear this:

Fed May Have To Slow Pace Of Rate Hikes If ECB Battling Sluggish Growth Falls Behind Unwinding Its QE, Cresset Wealth Advisors Jack Ablin Tells Reuters Global Markets Forum

— LiveSquawk (@LiveSquawk) June 5, 2018

Things are so rosy central banks have to stay easy, because they can’t raise rates. There’s appears to be a gap here.

In a perverse way though this supports the bull case again as easy money remains the name of the game.

Ultimately markets will decide direction, but from my perch the bull case is not as clear cut as Tony seems to think it is.

I’ll leave you with one consideration.

FAAMG stocks (Facebook, Amazon, Apple, Microsoft and Google) now have a combined market capitalization of $3.8 trillion, larger than Germany’s GDP of $3.7 trillion.

Germany is only the 4th largest economy on the planet.

I submit that the concentration of market cap in just a few hands is very much distorting the underlying fundamental reality and exposes markets to event risk should these few stocks roll-over and correct.

The narrowing in leadership is evident in the data. The most recent rally on $NDX has come with 40% of the index components tinkering below their 200MA while many of the big boys are ramping from new high to new high.

This type of divergence has spelled eventual trouble in the past:

For now these divergences don’t matter. Until they do. Happy trading.

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