Authored by Lance Roberts via RealInvestmentAdvice.com,September, so far, is living up to its reputation. The market slipped to the 50-day moving average, with the tape taking orders from crude oil.
For the week, crude rose about 9% over four sessions, which pulled the 10-year Treasury yield higher right along with it, closing just under 5%. The corners of the market that hate higher rates slid while the S&P 500 dipped 0.68% to close the week at 7,666.
However, that rather lackluster headline conveniently hides the real story beneath it.Take a look at the spread between markets. Small caps fell 2.
38% while the Dow dropped 1.51%. The equal-weight S&P index gave up 1.
87% while the cap-weighted index, by contrast, lost less than a point. The Nasdaq-100 barely budged, declining just 0.52%.
When the average stock falls three times as hard as the index, leadership is narrowing, not broadening. As we have flagged in recent notes on the AI complex, a market carried by a handful of names runs with a thin margin for error.Of course, the big news this week was the inflation data, which gave the bond market the excuse it needed.
Headline CPI ran at 3.4% over the past year, and remains sticky, while core CPI remained at 2.4%, just above the Fed’s target.
On the producer price side, inflation told a louder story, with PPI jumping 0.4% on the month and the annual rate accelerating to 5.4% from 4.
8%. However, that number, while higher than expected, will be revised lower with the benchmark revisions at the end of the month.Overall, it was goods pricing that did the damage, which rose 1.
1%, with diesel alone leaping 24%. Even core producer prices printed at 4.6%.
However, while the bond market was jolted, the reality is that this was an oil shock rather than a sign of an overheating economy. The former doesn’t justify a Fed rate hike; the latter would. Neither report was a disaster, but neither one gives the Fed a clean reason to hike rates.
On a cross-asset review, the moves fit a “rate scare.” Gold fell, the dollar remained flat, and volatility lifted off its lows without anything close to panic. However, the real story remained below the surface in the cyclical and rate-sensitive groups, which dragged lower all week.
The Fed meets Tuesday and Wednesday next week, with the market still leaning toward a quarter-point hike. Firm headline inflation and a crude oil spike are not the backdrop a central bank is likely to hike into, particularly with a softening labor market.Watch the long end into the decision.
If oil keeps running and the 10-year pushes above 5%, the multiple on this market gets much harder to defend. The narrow leadership that propped everything up all summer would be the first thing to give way, which wouldn’t be a surprising outcome for the month of September heading into the midterm election cycle.💰 This Time Is Different?
For every secular bull market, there is an eventual secular bear market. The next leg of the full-market cycle inevitably begins where everyone believes “this time is different.” There were two important charts this past week that should at least lend a momentary pause.
The first was from Ned Davis Research, showing the market (on a log scale) is now trading above the upper limit of its long-term trend. The previous extreme was in early 2000, for reference.Secondly, corporate earnings just broke above a trend that had contained them for more than 90 years.
Currently, it is not surprising that, given the advancement of AI, surging earnings growth, and bullish markets, investors inevitably come to believe that “this time is different.” The question we want to explore today is “Is it really different this time,” or just a normal secular cycle playing out in real time? Earlier this month, I argued the AI bears are right about the excess but may be wrong on the trade.
So let’s put the bull case on trial and see what holds.What’s Actually Driving The BreakoutLet’s start with the good news, because there is plenty of it. Second-quarter S&P 500 earnings grew roughly 31% year over year on an adjusted basis, well ahead of the 23% the Street had penciled in before the season.
Bloomberg calls it the strongest non-recession-recovery profit growth in its data going back to 1992. AI infrastructure did most of the heavy lifting. By BlackRock’s math, AI-related names drove close to 60% of the index’s earnings growth, and three hyperscalers account for roughly 70% of what analysts expect for the full year.
ar.Yes, there are reasons to be skeptical of the earnings growth, such as one-time investment gains that are boosting the numbers. However, there is a part that the bears keep glossing over.
The rest of the index is finally pulling its weight as well. When you strip out energy, and the AI build, and the other roughly 490 companies still grew earnings 14% in the second quarter, a number that would headline most years on its own. The “broadening” everyone keeps asking for is finally showing up in the profit data itself, not the hope column.
This rally is earnings-led, not multiple-led, and that single fact is what separates it from 2000. Look at the revisions. Forward earnings estimates have climbed for most of the year, while the forward multiple has drifted lower.
Price has been chasing profits, not the other way around. Hyperscaler capital spending is running north of $700 billion this year, up more than 80%, funded out of cash flow rather than junk debt. Furthermore, the hyperscaler capex is REAL.
The question was never whether the spending exists. The question is what you pay to own the earnings it produces.The Pain Trade Still Points HigherHowever, the real risk to the bear case lies in the sentiment.
You have a market compounding 30% earnings growth, and investors are positioned as if a recession just started. Sentiment across both the AAII survey and Goldman’s own indicator sits firmly bearish. Nasdaq-100 short interest is up 35% since June.
A sharp third-quarter de-grossing has pushed fundamental long/short net leverage into the 6th percentile of the past year, gross tech exposure sits in the 43rd percentile, and roughly $163 billion in cash is parked on the sidelines waiting for a pullback that refuses to arrive.Of course, the obvious is: “If everyone is already bearish, isn’t that itself the bullish tell?” The answer to that is “mostly, yes.
” Strong earnings, light positioning, elevated shorts, and a mountain of idle cash are the exact ingredients of a “pain trade” that grinds higher and forces the underinvested to chase. Such is the setup that keeps me long into the highs even while I distrust them.A good example is that single-stock short interest just hit its highest level in more than fifteen years.
Every one of those shorts is a future buyer the moment the tape refuses to break. That’s fuel, not a warning, at least for now. The warning is in the next section.
The Asterisk On “This Time Is Different”Here’s the problem with the clean bull story. The multiple only looks reasonable because it’s sitting on peak earnings. The S&P trades near 25.
6 times trailing profits. That runs above the long-run average, and it runs above the typical reading at prior bull-market peaks. The Shiller CAPE just hit 41, its 96th percentile since 1980, a zone AQR ties to something like 3.
9% annual returns over the next decade.While there is a lot of focus on the market price, the risk was never really the “P.” It’s the “E.
” When earnings break above a trend that held for ninety years, they are, by definition, above trend. And above-trend things are the things that mean-revert. A “reasonable” forward multiple computed on earnings that later prove to be a cycle peak is one of the oldest traps in the book.
Such is the quiet danger in every “this time is different” market: the story is usually true right up until the math stops cooperating.How These Breakouts Usually EndAs we have discussed previously, Bob Farrell’s Rule #4 has aged well for a reason. “Exponential mo