“Danger always strikes when everything seems fine.” From the movie “Seven Samurai” (Akira Kurosawa, director)
CONCLUSION AND OVERVIEW
In World War One on the Western front, after the initial stages in the horrific conflict, for an extended period little net change occurred in the location of the front lines dividing the entrenched armies. For a long time, neither camp won a decisive breakthrough victory despite significant planning, extensive maneuvers, ferocious battles, great expense, and ongoing long-running carnage. The contending forces were at roughly equal strength.
In a given marketplace, the bulls and bears can be locked in vicious combat for an extended period (with bullish and bearish factors in approximate balance). This will tend to keep prices in a (relatively) quiet overall sideways trend for quite some time, even if some short term fluctuations seem striking. If bullish forces (even if powerful) have only slightly more strength than bearish ones, the upward trend will tend to be slow; the bear slide will be rather peaceful if bearish factors possess only a slight advantage.
Breakouts are not inevitable in either war (or politics) or financial marketplaces.
However, the current relatively (outwardly) calm price situation for the S+P 500, United States 10 year government note, and the broad real trade-weighted US dollar probably will not persist. Volatility likely will increase in these playgrounds in the fairly near future. The recent bloody fall in the petroleum marketplace is one warning flag portending this prospective volatility jump.
The political scene represents another danger signal. Politics of course often reflects and influences economic outcomes (and vice versa). The political arena can signal that “lots is going on under the surface” in the economic realm. The assorted and substantial divisions and fierce fights within the American political scene (as well as similar quarrels overseas) also hint that increased volatility looms on the marketplace horizon. Populist conflict with the establishment (elites) has not disappeared in either America or overseas. How strong is the quality of the American President’s leadership, and how volatile is his temper, and how coherent and consistent are his policies? What if America and other key nations engage in passionate trade wars?
Current and forecast US federal budget deficits and burdens, already noteworthy, probably will explode if some form of President Trump’s murky tax “reform plan” becomes law. But what happens to the joyous “Trump rally” in stocks if his tax scheme and massive infrastructure spending plans are not enacted? What if US corporate earnings hoards buried overseas are not persuaded via beneficial tax legislation to return home? What if US share buyback rates slow significantly? “US share buyback plan approvals plunge” (Financial Times website, 5/1/17). Although stock valuations can appear very elevated relative for an extended period of time, some marketplace captains nowadays proclaim that some measures show stock valuations are on the lofty side. Besides, legislative gridlock itself can spark changes in or accelerate existing economic trends.
The long run path for US government interest rate yields probably is upward, despite their recent near-term sideways motion. The Federal Reserve Board is gradually ending yield repression and boosting rates, and it may be willing to permit “overshooting” relative to its beloved two percent inflation target. The Fed murmurs about reducing the size of its balance sheet. Recent very lax monetary policy by the European Central Bank (including negative rates and money printing) has continued despite the Fed’s slight policy tightening. What if the ECB cautions that it will become less accommodative? Also, watch GDP growth trends, inflation levels, and interest rates elsewhere; for example, note China’s effort to rein in excesses in shadow banking and its property playground.
Judging from recent months, the US dollar’s majestic bull trend seems to have halted. What happens to other marketplaces if the dollar begins a noteworthy retreat? Suppose foreigners become less willing to purchase, or become net sellers of, US Treasury securities?
Will conflicts involving North Korea, the Middle East, or elsewhere (note internal strife in Russia and Venezuela) escalate?
From the long run historical vantage point, the VIX volatility index for the S+P 500 is very low nowadays. A sustained upward charge in this yardstick probably will help confirm the existence of a top in the S+P 500. In this context, watch US consumer confidence trends. Enthusiastic peaks in consumer confidence at times have occurred around the time as those in the S+P 500; consumer despair has occurred close to a bottom in the S+P 500.
FOLLOW THE LINK BELOW to download this article as a PDF file.
Marketplace Volatility- Calm Before the Storm (5-8-17)