The very big picture:

In the “decades” timeframe, the current Secular Bull Market could turn out to be among the shorter Secular Bull markets on record. This is because of the long-term valuation of the market which, after only eight years, has reached the upper end of its normal range.

The long-term valuation of the market is commonly measured by the Cyclically Adjusted Price to Earnings ratio, or “CAPE”, which smooths out shorter-term earnings swings in order to get a longer-term assessment of market valuation. A CAPE level of 30 is considered to be the upper end of the normal range, and the level at which further PE-ratio expansion comes to a halt (meaning that increases in market prices only occur in a general response to earnings increases, instead of rising “just because”).

Of course, a “mania” could come along and drive prices higher – much higher, even – and for some years to come. Manias occur when valuation no longer seems to matter, and caution is thrown completely to the wind as buyers rush in to buy first and ask questions later. Two manias in the last century – the 1920’s “Roaring Twenties” and the 1990’s “Tech Bubble” – show that the sky is the limit when common sense is overcome by a blind desire to buy. But, of course, the piper must be paid and the following decade or two are spent in Secular Bear Markets, giving most or all of the mania gains back.

See Fig. 1 for the 100-year view of Secular Bulls and Bears. The CAPE is now at 33.25, up from the prior week’s 33.06, and still exceeds the level reached at the pre-crash high in October, 2007. This value is in the lower end of the “mania” range. Since 1881, the average annual return for all ten year periods that began with a CAPE around this level have been in the 0% – 3%/yr. range. (see Fig. 2).

In the big picture:

The “big picture” is the months-to-years timeframe – the timeframe in which Cyclical Bulls and Bears operate. The U.S. Bull-Bear Indicator (see Fig. 3) is in Cyclical Bull territory at 77.65, down from the prior week’s 78.53.

In the intermediate and Shorter-term picture:

The Shorter-term (weeks to months) Indicator (see Fig. 4) turned positive on February 15th. The indicator ended the week at 16, up from the prior week’s 10. Separately, the Intermediate-term Quarterly Trend Indicator – based on domestic and international stock trend status at the start of each quarter – was positive entering January, indicating positive prospects for equities in the first quarter of 2018.

Timeframe summary:

In the Secular (years to decades) timeframe (Figs. 1 & 2), the long-term valuation of the market is simply too high to sustain rip-roaring multi-year returns – but the market has entered the low end of the “mania” range, and all bets are off in a mania. The only thing certain in a mania is that it will end badly…someday. The Bull-Bear Indicator (months to years) is positive (Fig. 3), indicating a potential uptrend in the longer timeframe. In the intermediate timeframe, the Quarterly Trend Indicator (months to quarters) is positive for Q1, and the shorter (weeks to months) timeframe (Fig. 4) is positive. Therefore, with internal unanimity expressed by all three indicators being positive, the U.S. equity markets are rated as Positive.

In the markets:

U.S. Markets: The majority of major U.S. stock indexes ended the holiday-shortened week positive for the week (thanks to a burst higher on Friday), with the technology-heavy NASDAQ Composite index performing the best. However, the modest gains for the week masked the volatility that occurred throughout with the Dow swinging almost 500 points on Wednesday alone. The Dow Jones Industrial Average rose for a second week, adding 0.36% to close at 25309.99. The NASDAQ Composite rose 1.35% to close at 7,337. By market cap, large caps outperformed smaller caps with the S&P 500 large cap index rising 0.55%, while the S&P 400 mid cap and Russell 2000 small cap indexes added 0.16% and 0.37%, respectively.

International Markets: Canada’s TSX also rebounded for a second week, rising 1.2%. Across the Atlantic, the United Kingdom’s FTSE slipped -0.69%, while on Europe’s mainland major markets were mixed. France’s CAC 40 rose 0.68%, Germany’s DAX gained 0.26%, while Italy’s Milan FTSE slipped -0.55%. In Asia, China’s Shanghai Composite rebounded sharply for the second week, jumping 2.8%, while Japan’s Nikkei added 0.8% and Hong Kong’s Hang Seng rose 0.5%. As grouped by Morgan Stanley Capital International, developed markets slipped ‑0.1% while emerging markets rose 0.4%.

Commodities: Energy rose for a second week with West Texas Intermediate crude oil rising 3.25% to close at $63.55 per barrel. Precious metals gave back much of last week’s gains with Gold falling -$25.90 to close at $1330.30 an ounce, a loss of -1.9% and Silver giving up -1.4% to close at $16.48. Copper, viewed by some analysts as an indicator of global economic health due to its variety of uses, also gave back some of last week’s gain by falling ‑1.1%.

U.S. Economic News: New claims for unemployment benefits dropped by 7,000 to 222,000, reclaiming their 45-year low last week. This reading marked the second lowest level since the end of the 2007-2009 recession. Economists had forecast 230,000 new claims. The less-volatile four-week average of new claims declined by 2,250 to 226,000. Claims are now down to their lowest levels since the early 1970’s. Most firms continue to report shortages of qualified workers, and the unemployment rate is at a 17-year low. Continuing claims, which counts the number of people already collecting unemployment benefits, dropped by 73,000 to 1.88 million.

Sales of existing homes plunged at their fastest rate in over 3 years as the available supply of homes continues to shrink. Existing-home sales were at a seasonally-adjusted annual pace of 5.38 million in January, according to the National Association of Realtors (NAR). Sales slipped 3.2% last month, for their second consecutive monthly decline and are down 4.8% from the same time last year – the steepest annual decline since 2015. Economists had forecast sales at a 5.59 million pace. The NAR notes that available supply is still the major factor weighing on the housing market – there’s no shortage of demand. At the current sales pace, there’s just 3.4 months of inventory available, which is especially lean compared to traditional averages. Inventory was 9.5% lower than a year ago, and marked its 32^nd consecutive month of year-over-year inventory declines. As expected, the dwindling inventory pushed up home prices. The median price jumped 5.8% to $240,500.

Manufacturing activity in the United States surged to a nearly 3 ½ year high this month, while activity in the services sector hit a six-month peak, according to data from market research firm IHS Markit. Markit’s Purchasing Managers Index (PMI) reading for manufacturing rose 0.4 point to 55.9, while the services barometer rose 2.6 points to 55.9. Numbers over 50 signify expansion, and results over 55 are considered exceptional. The only negative within the report was that the costs of raw and partly finished materials rose to its highest level in 5 years, suggesting a sign of rising inflation. Chris Williamson, chief business economist at IHS Markit stated, “Business activity growth accelerated markedly in February, suggesting the economy is growing at its fastest pace in over two years.”

The Conference Board’s index of Leading Economic Indicators (LEI) jumped 1% last month, its fourth straight monthly gain and its biggest rise in three months. The Conference Board reported 8 of its 10 indicators were positive, with the building permits and financial subcomponents the main drivers of the strong gain. Ataman Ozyildirim, director of business cycles and growth research, stated “The leading indicators reflect an economy with widespread strengths coming from financial conditions, manufacturing, residential construction, and labor markets.” Ozyildirim noted that the recent stock market volatility, coming after the data collection for the LEI report had ended, “shouldn’t have a big impact.”

Minutes released this week from the Federal Reserve’s Federal Open Market Committee meeting at the end of January showed officials saw a stronger economy at the end of last year and that more rate hikes were anticipated for 2018. According to the minutes, the strengthening “increased the likelihood that a gradual upward trajectory of the federal funds rate would be appropriate”. Economists have been concerned that President Trump’s tax cuts would push wages up, leading to a surge in inflation. The minutes also showed that while several officials expected inflation to move higher this year, only “a couple” were worried that the economy may overheat. At the meeting, Fed officials agreed to hold rates steady at 1.25-1.5%.

International Economic News: Major Canadian bank Scotiabank said every year that proposed major oil pipelines are delayed costs Canada’s economy $15.6 billion. Delayed oil pipeline construction is causing a steep discount for Canadian crude prices that equates to roughly 0.75% of GDP. The shortage is expected to ease to $10.7 billion this year as more rail capacity becomes available to ship oil. The costs come as delays continue for all three major proposed oil pipelines to export oil from Western Canada—Kinder Morgan’s Trans Mountain expansion, Enbridge’s Line 3 replacement, and TransCanada’s Keystone XL. Scotiabank said the delay of new pipeline approvals have imposed “clear, demonstrable, and substantial economic costs on the economy.”

Britain’s economy grew less than originally reported in the fourth quarter of last year, according to the Office for National Statistics (ONS). Britain’s economy grew 0.4% in the final quarter of last year, a 0.1% decrease from the original estimate of 0.5%. The ONS explained that “A number of very small revisions to mining, energy generation, and services were enough to see a slight downward revision.” Services continued to be the dominant sector of the UK economy accounting for roughly 80% of economic output. Darren Morgan, the ONS’ head of GDP said “Services continued to drive growth at the end of 2017, but with a number of consumer-facing industries slowing, price rises led to household budgets being squeezed.” For the year, Britain grew 1.4% making it the slowest growing major economy behind both Italy and Japan.

On Europe’s mainland, French employers have a surprising problem in a nation with a 9% unemployment rate: finding skilled workers. Despite the stubbornly high unemployment rate that has not dropped below 9% for six years, employers lament the lack of skilled workers—particularly in the construction, engineering, and IT industries. More than a third of French manufacturers are operating at full capacity, its highest since early 1990, and 40% report difficulties recruiting workers, according to French statistics agency INSEE. In a sign of surging demand for labor, permanent contract hirings rose 6.4% to 48% in the final quarter of last year, levels last seen right before the onset of the global financial crisis.

Confidence among Germany’s business owners fell more than expected this month, but remained near a high level according to the Munich-based Ifo Economic Institute. Ifo stated its business climate index, based on a monthly survey of 7,000 firms, fell to a 5-month low of 115.4, down 2.2 points from January. February’s reading missed expectations by 1.6 points. The decline was attributed to exporters concerned about the stronger euro exchange rate which makes German products more expensive to customers outside the bloc. Ifo economist Klaus Wohlrabe stated, “The export euphoria is flattening out a bit. I would not yet speak of a change in the underlying trend, the German economy is still doing very well, but some of the steam has been let off.”

In a concerning development in China, the China Insurance Regulatory Commission (CIRC) said that it will take control of the Anbang Insurance Group for a year and that the company’s former chairman has been prosecuted for “economic crimes”. The move is aimed at protecting consumer interests as the company’s practices may have endangered Anbang’s solvency. The regulator reported it will maintain the company as a private enterprise and that Anbang’s debts and obligations will not be impacted. Anbang is best known in the West for its purchase of New York’s landmark Waldorf Astoria hotel in 2015. However this is not the first time Anbang has run into trouble with the CIRC. Last spring, the CIRC suspended the insurer from issuing new products for three months as it stated that one of the insurer’s product designs “deviates from the fundamentals of insurance”.

The Japanese government, in its latest monthly economic report, reasserted its assessment that the economy is “gradually recovering”. The economy has grown for eight consecutive quarters, its longest continuous expansion since a 12-quarter stretch between 1986 and 1989 during Japan’s infamous economic bubble. Continued steady growth may finally defeat the deflation that Japan has been mired in for decades. An end to deflation would be a huge victory for Prime Minister Shinzo Abe’s aggressive monetary policies intended to reflate the economy. Over the past few years, Abe’s labor reforms, corporate tax breaks and changes to other regulations have spurred economic growth. Stock prices are close to their highest levels in 26 years, corporate profits are near an all-time high, exports are growing and business investment continues to increase. To most, that sounds like more than “gradually” recovering, but the government is known to understate for purposes of expectation management.

Finally: Analyst and long-time market commentator Mark Hulbert noted this week that despite this past month’s price action, bonds are still a hedge against stock market losses. Hulbert pointed out that this month’s steep market decline also saw bond prices fall as well, spreading worry that in the “new normal” bonds may not serve as the protection for the stock market as well as they have traditionally. Hulbert believes that worry is unjustified, noting that while rare, the phenomenon of both stocks and bonds dropping in tandem is not unprecedented. Since 1926, both the S&P 500 and intermediate-term U.S. Treasury bonds have fallen together 12.4% of the months, or an average of once every eight months. Investors, he says, are being unrealistic if they “expect bonds—or any hedge, for that matter—to work every time, all the time.”

(sources: all index return data from Yahoo Finance; Reuters, Barron’s, Wall St Journal, Bloomberg.com, ft.com, guggenheimpartners.com, zerohedge.com, ritholtz.com, markit.com, financialpost.com, Eurostat, Statistics Canada, Yahoo! Finance, stocksandnews.com, marketwatch.com, wantchinatimes.com, BBC, 361capital.com, pensionpartners.com, cnbc.com, FactSet; Figs 1-5 source W E Sherman & Co, LLC)

The ranking relationship (shown in Fig. 5) between the defensive SHUT sectors (“S”=Staples [a.k.a. consumer non-cyclical], “H”=Healthcare, “U”=Utilities and “T”=Telecom) and the offensive DIME sectors (“D”=Discretionary [a.k.a. Consumer Cyclical], “I”=Industrial, “M”=Materials, “E”=Energy), is one way to gauge institutional investor sentiment in the market. The average ranking of Defensive SHUT sectors rose to 21.75 from the prior week’s 21.00, while the average ranking of Offensive DIME sectors fell slightly to 11.00 from the prior week’s 10.00. The Offensive DIME sectors basically maintained their lead over the Defensive SHUT sectors. Note: these are “ranks”, not “scores”, so smaller numbers are higher ranks and larger numbers are lower ranks.

If you have any questions about the FBIAS™ Fact-Based Investment Allocation Strategy portfolios, feel free to give your Anthony Capital, LLC advisor a call at 303-734-7178 or by scheduling a private virtual meeting/conference call. We work with clients from all over the country and would be happy to help.

You can also open up an online account by clicking HERE at our preferred custodian, Folio Institutional, LLC.

Sincerely,

Dave Anthony, CFP®

The very big picture:

In the “decades” timeframe, the current Secular Bull Market could turn out to be among the shorter Secular Bull markets on record. This is because of the long-term valuation of the market which, after only eight years, has reached the upper end of its normal range.

The long-term valuation of the market is commonly measured by the Cyclically Adjusted Price to Earnings ratio, or “CAPE”, which smooths out shorter-term earnings swings in order to get a longer-term assessment of market valuation. A CAPE level of 30 is considered to be the upper end of the normal range, and the level at which further PE-ratio expansion comes to a halt (meaning that increases in market prices only occur in a general response to earnings increases, instead of rising “just because”).

Of course, a “mania” could come along and drive prices higher – much higher, even – and for some years to come. Manias occur when valuation no longer seems to matter, and caution is thrown completely to the wind as buyers rush in to buy first and ask questions later. Two manias in the last century – the 1920’s “Roaring Twenties” and the 1990’s “Tech Bubble” – show that the sky is the limit when common sense is overcome by a blind desire to buy. But, of course, the piper must be paid and the following decade or two are spent in Secular Bear Markets, giving most or all of the mania gains back.

See Fig. 1 for the 100-year view of Secular Bulls and Bears. The CAPE is now at 33.06, up from the prior week’s 31.69, and still exceeds the level reached at the pre-crash high in October, 2007. This value is in the lower end of the “mania” range. Since 1881, the average annual return for all ten year periods that began with a CAPE around this level have been in the 0% – 3%/yr. range. (see Fig. 2).

In the big picture:

The “big picture” is the months-to-years timeframe – the timeframe in which Cyclical Bulls and Bears operate. The U.S. Bull-Bear Indicator (see Fig. 3) is in Cyclical Bull territory at 78.53, down from the prior week’s 79.79.

In the intermediate and Shorter-term picture:

The Shorter-term (weeks to months) Indicator (see Fig. 4) turned positive on February 15th. The indicator ended the week at 10, up from the prior week’s 8. Separately, the Intermediate-term Quarterly Trend Indicator – based on domestic and international stock trend status at the start of each quarter – was positive entering January, indicating positive prospects for equities in the first quarter of 2018.

Timeframe summary:

In the Secular (years to decades) timeframe (Figs. 1 & 2), the long-term valuation of the market is simply too high to sustain rip-roaring multi-year returns – but the market has entered the low end of the “mania” range, and all bets are off in a mania. The only thing certain in a mania is that it will end badly…someday. The Bull-Bear Indicator (months to years) is positive (Fig. 3), indicating a potential uptrend in the longer timeframe. In the intermediate timeframe, the Quarterly Trend Indicator (months to quarters) is positive for Q1, and the shorter (weeks to months) timeframe (Fig. 4) is positive. Therefore, with internal unanimity expressed by all three indicators being positive, the U.S. equity markets are rated as Positive.

In the markets:

U.S. Markets: Stocks rebounded strongly from the carnage of the previous week and recorded their best weekly gains since early 2013. The technology-heavy NASDAQ Composite performed the best, while the energy sector lagged despite the sharp rally in oil prices. After hitting the “correction” level, defined as a drop of 10% or more from recent highs, the indexes finished the week down just 4-5% from their January highs. The Dow Jones Industrial Average retraced most of last week’s loss, rising over 1000 points, or 4.25%, to close at 25,219. The NASDAQ surged 5.3% and regained the 7,000 level ending the week at 7,239. By market cap, large caps slightly lagged their smaller cap brethren. The large cap S&P 500 index gained 4.3%, while the S&P 400 mid cap and Russell 2000 small cap indexes rose 4.4% and 4.5%, respectively.

International Markets: Canada’s TSX also retraced most of last week’s losses by rising 2.8%. In Europe, the United Kingdom’s FTSE gained 2.9%, while on Europe’s mainland France’s CAC 40 gained 4%, Germany’s DAX added 2.9%, and Italy’s Milan FTSE rose 2.9%. In Asia, China’s Shanghai Composite only managed to retrace 2.2% of last week’s 9.6% plunge. Japan’s Nikkei rose 1.6% while with Hong Kong’s Hang Seng jumped 5.5%. As grouped by Morgan Stanley Capital International, emerging markets added a robust 6.7%, while developed markets gained 4.1%.

Commodities: Precious metals joined in the equity rebound with Gold rising 3.1% to $1,356.20 an ounce and Silver adding 3.6% to $16.71 an ounce. Energy rebounded almost 4% with West Texas Intermediate crude oil rising $2.35, ending the week at $61.55 per barrel. Copper, viewed by some analysts as an indicator of global economic health due to its variety of industrial uses, rose a very strong 7%.

U.S. Economic News: Applications for new unemployment benefits increased slightly last week, but layoffs in the U.S. remained near a 45-year low. According to the Labor Department, initial jobless claims increased by 7,000 to 230,000, which matched economists’ forecasts. The less-volatile four-week average of claims rose by 3,500 to 228,500. Jobless claims have now been below the key 300,000 threshold that signals a healthy labor market for 154 straight weeks, nearing the all-time record of 160 consecutive weeks. Continuing claims, which counts the number of people already collecting unemployment benefits rose by 15,000 to 1.94 million. Over 2.4 million people were receiving benefits at the same time last year.

The number of new homes under construction continues to close in on the highs set during the housing bubble of 2007 as housing starts surged 10% in January to an annual rate of 1.33 million. The reading was its second-highest since the Great Recession and blew away analysts’ forecasts of 1.24 million. In addition, the number of permits to build new homes jumped to a 10 ½ year high, up 7.4% to an annual rate of 1.4 million. Construction increased in the North, South, and West and, importantly, two-thirds of new construction was single-family homes. Compared to the same time last year, housing starts are up 7%. Analysts report that the biggest issue weighing on housing continues to be demand outstripping the available supply, pushing prices outside the reach of many would-be buyers.

The Commerce Department reported that sales among the nation’s retailers unexpectedly fell 0.3% in January, its biggest drop in a year, as households cut back on purchases of motor vehicles and building materials. December’s reading was revised to unchanged instead of rising 0.4% as previously reported. Economists had expected a gain of 0.2%. On an annual basis, retail sales were nevertheless up 3.6% from a year ago. Stuart Hoffman, senior economic adviser at PNC Financial Services, was optimistic following the report noting, “This is a temporary pause in consumer spending following a strong holiday sales season.”

Sentiment among the nation’s small business owners continues to soar due to the change in tone towards businesses in Washington. The National Federation of Independent Businesses (NFIB) small business optimism index climbed two points last month to a reading of 106.9. The improvement came following a dip in December and exceeded analysts’ forecasts by 1.4 points. Perhaps a harbinger for the nation’s future economy was the all-time high number of respondents reporting “now is a good time to expand.” The NFIB said in its release, “The record level of enthusiasm for expansion follows a year of record-breaking optimism among small businesses.” Of the index subcomponents, six of the ten improved, while two declined, and two remained unchanged. As has been the case, business owners continue to report that finding qualified workers continues to be their biggest problem—worse even than taxes and regulation. The index remains just below November’s reading, the second-highest in the survey’s 45-year history.

Consumer sentiment climbed to its second-highest level in 14 years, according to the University of Michigan. The University said its index rose to a reading of 99.9 in February, up 4.2 points from January, and soundly topped forecasts for a reading of 95.3. In the details, there were big gains in both the current economic conditions and the expectations sub-indexes. The tax cuts enacted by President Trump are now starting to impact workers’ paychecks, along with the strong jobs market, and solid economic growth has consumers confident about the future. Richard Curtin, chief economist of the survey stated in its release, “Purchase plans have been transformed from the attraction of deeply discounted prices and low interest rates that outweighed economic uncertainty, to being based on a sense of greater income and job security – the fewest consumers in decades mentioned the favorable impact of low prices and interest rates.”

Two separate gauges of manufacturing sentiment continued to show solid growth this month. The Philadelphia Fed’s manufacturing index rose 3.6 points to 25.8 this month, beating forecasts of a retreat to 21. In the details, the new orders gauge surged 14.4 points to 24.5, which bodes well for future economic activity. However on a down note, the shipments gauge declined to 15.5 from 30.3. The New York Fed’s Empire State index slowed 4.6 points to 13.1. In New York, both the new orders and shipments gauges were little changed. Both indexes remained well above zero which indicates improving conditions. John Silvia, chief economist at Wells Fargo stated, “The factory sector recovery that took hold in 2017 remains firmly in place. The collective 2015-2016 headwinds of weak demand at home and abroad, falling commodity prices and a strong U.S. dollar have been flipped on their heads, with no immediate end in sight.”

A key measure of inflation trends jumped more than forecast last month, sparking renewed fears of inflation. The Labor Department reported the Consumer Price Index (CPI) rose 0.5% last month, whereas economists had expected only a 0.3% increase. Excluding the volatile food and energy categories, the index was still up 0.3% versus estimates of 0.2%. The report showed that price pressures were “broad based” with gasoline, shelter, clothing, medical care, and food all rising. On an annualized basis, headline CPI rose 2.1%, up 0.2% from expectations, while core CPI increased 1.8% versus expectations of 1.7%. Peter Boockvar, chief investment officer at Bleakley Advisory Group stated, “The worry of the markets is not that inflation is becoming a big problem…it is that the Fed is now forced to play catch up at the same time they are shrinking their balance sheet.”

At the producer level, price inflation has also taken hold as wholesale prices jumped 0.4% last month. While oil prices were a contributor to the increase, the more stable core PPI, which strips out food, energy, and trade margins, also rose 0.4% suggesting that price pressures are more widespread. Annualized, wholesale inflation rose a tick to 2.7%, but it remained below its six-year high of 3.1% hit recently.

Adding to the consumer and producer inflation concerns, the import price index also jumped, up by 1% in January. The Bureau of Labor Statistics reported that increases in the price of oil, German automobiles, French food, and Italian wines all contributed. Ex-fuel, import prices were still up 0.4%, the biggest increase in six years. The falling dollar has made overseas goods more expensive, while the strong American economy has encouraged people to spend. The new inflation data has some analysts now thinking the Federal Reserve will raise interest rates four times this year instead of the three previously anticipated.

International Economic News: Canada’s Finance Minister Bill Morneau stated Canada won’t be “impulsive” responding to U.S. tax cuts. After meeting with private sector economists, Morneau stated that the Liberal government will not “act in an impulsive way” in response to U.S. corporate tax cuts that economists said may pose a threat to Canada’s competitiveness. Morneau said the government is conducting a careful analysis in connection with U.S. President Trump’s sweeping tax reforms. Morneau remained tight-lipped about the release of Canada’s budget on February 27^th, but said that his recent discussions focused on negotiations of the North American Free Trade Agreement and the impact of U.S. tax changes on the Canadian economy.

Across the Atlantic, Britain’s government is ready to push for the kind of Brexit plan endorsed by the United Kingdom’s financial center of London. The City of London has stated it wants a mutual recognition system to regulate financial services after Brexit in the hopes of maintaining the City of London’s access to the European Union. An unnamed official stated, “It is obviously in everyone’s interest to not just totally turn on its head the pan-European banking system…Everyone has a lot to lose from this if we can’t get a deal.” Bank of England Governor Mark Carney has previously stated Britain and the EU should adopt a system of mutual recognition in the financial services sector. With a little more than a year before Brexit takes place, many banks have begun activating contingency plans to move some operations out of the country.

French President Emmanuel Macron’s policies continue to be praised as the French economy continues to power ahead. French unemployment fell to its lowest level since 2009 – the most obvious sign of economic improvement in the Eurozone’s second-largest economy. Unemployment dropped to just 8.9% in the final quarter of last year, down from 9.6% in the third quarter. The decrease was the largest drop for any single quarter since at least 1996. Christian Schulz, European economist at Citi stated, “France seems to have turned a corner. This is a real sign that the boost in confidence we have seen in France, which is reverberating across the Eurozone, is translating to stronger job creation in the country.” French statistics agency Insee reported France’s economy grew at its fastest rate in 10 years in 2017, expanding at 1.9%.

The German economy grew 2.2% last year, with another quarter of solid growth in the final months of 2017. As Europe’s main economic powerhouse, Germany is benefitting from economic strength throughout the bloc and with major trading partner around the world. According to Germany’s statistics agency Destatis, the economy grew 0.6% in the fourth quarter, matching economists’ forecasts. Destatis described the growth as “steady and strong”. Growth in the final quarter was driven primarily by foreign demand and “exports increased substantially.” In addition, Destatis noted that government spending rose and household consumption remained essentially flat. Analysts broadly agree that the strong economic performance is expected to continue in 2018.

The greatest risk to China’s economy, as seen by many analysts, is rising corporate and household debt. Since 2009, China has been one of the leading world generators of debt, contributing to the growing concern over global inflation. Thus far, China has amassed debt equivalent to $4.3 trillion USD, or about 41% of China’s gross domestic product. The debt has been managed…by issuing more debt. The latest data from the People’s Bank of China reveals that China created a record 2,900 billion yuan ($458 billion) in new loans in January. Beijing rolled out more policies last month to restrict riskier financial operations supported by loose lending, but the International Monetary Fund still warns that China’s inability to control expanding debt increases the risk of a financial crisis.

The Japanese economy has now posted its longest growth streak since the boom decade of the 1980’s as fourth quarter growth rose 0.5%, driven by an increase in consumer spending. This long run of growth is encouraging for the Bank of Japan and hints that the Japanese economy may finally build up enough momentum to reach the BOJ’s 2% inflation target. Hiroaki Mutu, economist at Tokai Tokyo Research Center noted, “Economic fundamentals look good and growth this year is likely to be above the economy’s potential.” World financial markets appear to be on edge because central banks in the United States and Europe are poised to raise interest rates to stay ahead of inflation, but the Bank of Japan is still expected to intentionally lag well behind its peers.

Finally: As of late, analysts have repeatedly sounded the alarm over the extreme valuation in the U.S. equity markets by looking at just about every traditional market valuation metric. Interestingly enough, a recent survey of institutional investors by Bank of America Merrill Lynch found that while most institutional investors agreed the market had an “excessive valuation”, those same managers also were heavily over-weighted in equities. Analysts have coined the term “fully invested bear”, to describe this new behavior. The explanation for this paradoxical stance could perhaps be best described by the relatively new acronym of “FOMO” – “Fear Of Missing Out”.

(sources: all index return data from Yahoo Finance; Reuters, Barron’s, Wall St Journal, Bloomberg.com, ft.com, guggenheimpartners.com, zerohedge.com, ritholtz.com, markit.com, financialpost.com, Eurostat, Statistics Canada, Yahoo! Finance, stocksandnews.com, marketwatch.com, wantchinatimes.com, BBC, 361capital.com, pensionpartners.com, cnbc.com, FactSet; Figs 1-5 source W E Sherman & Co, LLC)

The ranking relationship (shown in Fig. 5) between the defensive SHUT sectors (“S”=Staples [a.k.a. consumer non-cyclical], “H”=Healthcare, “U”=Utilities and “T”=Telecom) and the offensive DIME sectors (“D”=Discretionary [a.k.a. Consumer Cyclical], “I”=Industrial, “M”=Materials, “E”=Energy), is one way to gauge institutional investor sentiment in the market. The average ranking of Defensive SHUT sectors fell to 21.00 from the prior week’s 19.50, while the average ranking of Offensive DIME sectors rose slightly to 10.00 from the prior week’s 10.50. The Offensive DIME sectors strengthened their lead over the Defensive SHUT sectors. Note: these are “ranks”, not “scores”, so smaller numbers are higher ranks and larger numbers are lower ranks.

If you have any questions about the FBIAS™ Fact-Based Investment Allocation Strategy portfolios, feel free to give your Anthony Capital, LLC advisor a call at 303-734-7178 or by scheduling a private virtual meeting/conference call. We work with clients from all over the country and would be happy to help.

You can also open up an online account by clicking HERE at our preferred custodian, Folio Institutional, LLC.

Sincerely,

Dave Anthony, CFP®

The very big picture:

In the “decades” timeframe, the current Secular Bull Market could turn out to be among the shorter Secular Bull markets on record. This is because of the long-term valuation of the market which, after only eight years, has reached the upper end of its normal range.

The long-term valuation of the market is commonly measured by the Cyclically Adjusted Price to Earnings ratio, or “CAPE”, which smooths out shorter-term earnings swings in order to get a longer-term assessment of market valuation. A CAPE level of 30 is considered to be the upper end of the normal range, and the level at which further PE-ratio expansion comes to a halt (meaning that increases in market prices only occur in a general response to earnings increases, instead of rising “just because”).

Of course, a “mania” could come along and drive prices higher – much higher, even – and for some years to come. Manias occur when valuation no longer seems to matter, and caution is thrown completely to the wind as buyers rush in to buy first and ask questions later. Two manias in the last century – the 1920’s “Roaring Twenties” and the 1990’s “Tech Bubble” – show that the sky is the limit when common sense is overcome by a blind desire to buy. But, of course, the piper must be paid and the following decade or two are spent in Secular Bear Markets, giving most or all of the mania gains back.

See Fig. 1 for the 100-year view of Secular Bulls and Bears. The CAPE is now at 33.40, down from the prior week’s 34.75, and exceeds the level reached at the pre-crash high in October, 2007. This value is in the lower end of the “mania” range. Since 1881, the average annual return for all ten year periods that began with a CAPE around this level have been in the 0% – 3%/yr. range. (see Fig. 2).

In the big picture:

The “big picture” is the months-to-years timeframe – the timeframe in which Cyclical Bulls and Bears operate. The U.S. Bull-Bear Indicator (see Fig. 3) is in Cyclical Bull territory at 84.22, down from the prior week’s 87.59.

In the intermediate and Shorter-term picture:

The Shorter-term (weeks to months) Indicator (see Fig. 4) turned positive on December 27th. The indicator ended the week at 29, down from the prior week’s 33. Separately, the Intermediate-term Quarterly Trend Indicator – based on domestic and international stock trend status at the start of each quarter – was positive entering January, indicating positive prospects for equities in the first quarter of 2018.

Timeframe summary:

In the Secular (years to decades) timeframe (Figs. 1 & 2), the long-term valuation of the market is simply too high to sustain rip-roaring multi-year returns – but the market has entered the low end of the “mania” range, and all bets are off in a mania. The only thing certain in a mania is that it will end badly…someday. The Bull-Bear Indicator (months to years) is positive (Fig. 3), indicating a potential uptrend in the longer timeframe. In the intermediate timeframe, the Quarterly Trend Indicator (months to quarters) is positive for Q1, and the shorter (weeks to months) timeframe (Fig. 4) is also positive. Therefore, with internal unanimity expressed by all three indicators being positive, the U.S. equity markets are rated as Positive.

In the markets:

U.S. Markets: Stocks recorded their first weekly loss of the young year, with the large-cap S&P 500 index suffering its worst weekly drop in two years. All major markets finished the week in the red with the Dow Jones Industrial Average falling -4.1% to close at 25,520, while the technology-heavy NASDAQ Composite fell -3.5%. By market cap, small caps fared slightly better than their larger cap brethren. The Russell 2000 small cap index retreated -3.8%, while the large cap S&P 500 and mid cap S&P 400 each lost -3.9%.

International Markets: The selling impacted major international markets as well. Canada’s TSX had a second down week, losing -3.9%. The United Kingdom’s FTSE fell a third consecutive week losing -2.9%. On Europe’s mainland, France’s CAC 40 fell -3%, Germany’s DAX plunged -4.2%, and Italy’s Milan FTSE ended down -2.7%. In Asia, China’s Shanghai Composite reversed last week’s 2% rise by falling -2.7%, Japan’s Nikkei closed down ‑1.5% and Hong Kong’s Hang Seng dropped -1.7%. As grouped by Morgan Stanley Capital International, developed markets fell -3.6% while emerging markets plunged -5.8%.

Commodities: Precious metals turned out to be of little value as a safe haven amid the market weakness. Gold retreated -1.1% to $1337.30 an ounce, while Silver plunged -4.2% to $16.71 an ounce. Energy was also weak, as oil traded down -1% to $65.45 per barrel of West Texas Intermediate crude oil. Copper, which some analysts use as an indicator of global economic health due to its variety of uses, fell just -0.4%.

January Summary: For the month of January, the Dow gained 5.8%, while the NASDAQ jumped 7.4%. Small caps rose a relatively lackluster 2.6%, mid caps an equally mediocre 2.8%, while large caps (S&P 500) jumped 5.6%. International markets were not as unanimously positive, but overall quite strong. Canada’s TSX fell -1.6%, the UK’s FTSE fell -2.1%, France’s CAC 40 rose 3.2% and Germany’s DAX finished January up 2.1%. In Asia, China’s Shanghai Composite rose by 5.25%, Japan’s Nikkei finished up 1.5%, and Hong Kong’s Hang Seng led all major international markets with a huge gain of +9.9% for January. As grouped by Morgan Stanley Capital International, developed markets jumped 5.0% and emerging markets ripped higher by 8.3% in January. Gold rose 3.6% in January, Silver gained a similar 3.5%, but copper was off -2.4%. Oil had a very strong run in January, with Light Sweet Crude gaining 9.8%.

U.S. Economic News: Payroll processer ADP reported that the U.S. added a stronger-than-expected 234,000 private sector jobs last month, the second straight month of strong gains. The report showed that small private-sector businesses added 58,000 jobs in January, while medium-sized and large businesses added 91,000 and 85,000 jobs respectively. Mark Zandi, chief economist for Moody’s Analytics, said that the data showed that the labor market was “excruciatingly tight”. Zandi also predicted the unemployment rate would drop further from the current 4.1% rate into the mid 3% range.

The Labor Department reported the number of people who applied for new unemployment benefits last week fell by 1,000 to 230,000, still remaining near a 45-year low. Economists had expected claims to rise to 240,000. Over the past year, claims have fallen 8% and are near their lowest level since the early 1970’s. The tight job market is finally starting to benefit workers: wages for private-sector employees climbed 2.8% over the year ending in December, its biggest year-over-year gain since 2008.

The Labor Department’s monthly Non-Farm Payrolls (NFP) report showed the U.S. created 200,000 new jobs in the first month of 2018, indicating that companies are still anxious to hire new employees more than eight years after the economic expansion began. The increase in hiring exceeded analysts’ forecasts of 190,000 jobs. Unemployment remained at its 17-year low of 4.1%. Construction, education/health services, and leisure/hospitality led the industries for job creation. As has been reported numerous times, the biggest concern among businesses continues to be the ongoing shortage of skilled workers. Dan North, chief economist at Euler Hermes North America, says many manufacturers are now desperate enough to hire unskilled workers at low wages and train them.

Home prices surged to new highs in November according to the latest report from S&P CoreLogic Case-Shiller. S&P/Case-Shiller’s national home price index rose 6.2% on an annualized basis, while the more narrowly-focused 20-city index gained 6.4%. Prices nationally are now 6% higher than their 2006 peak, while those in the top 20 markets are still 1.1% below. The robust gains show that the lack of inventory in the housing market is not letting up, and neither is the rise in the price of homes. David M. Blitzer, Managing Director and Chairman of the Index Committee at S&P Dow Jones Indices stated, “Home prices continue to rise three times faster than the rate of inflation.” Blitzer cited the slow recovery in the home construction market as builders have yet to reach historically normal levels, despite the pent-up demand in the market. In the details of the report, Seattle and San Francisco continued to see the highest price gains, followed by San Diego, Los Angeles, and Las Vegas.

Pending home sales, which counts the number of homes in which a contract has been signed but not yet closed, also moved higher in December. The National Association of Realtors reported its pending home sales index rose 0.5% to its highest level since March. December marked the third consecutive increase for the index. Contract signings usually precede sales by 45 to 60 days, suggesting that the uptick in December means that 2018 should start the year with “a small trace of momentum.” Regionally, pending sales were mixed with sales down -5.1% in Northeast, down -0.3% in the Midwest, but up 2.6% in the South, and 1.5% in the West.

The Commerce Department reported that spending among the nation’s consumers hit a six-year high in December, climbing 0.4%. It was its biggest monthly increase since 2011. In the details of the release, incomes were up 0.4% in December and 3.1% for the full year. However, factoring in inflation, the gain was a much lesser 1.2% – the lowest inflation-adjusted reading since 2010. One item of concern, though: Americans reduce their savings rate to continue their purchasing. The savings rate fell to 2.4%, the lowest level since 2005. Greg Daco, chief U.S. economist at Oxford Economics said in a note to clients, “Looking ahead, we believe the Tax Cuts and Jobs Act will support stronger income growth in the first half of the year. This should help support the savings rate and continue to drive consumer outlays in 2018.” Americans increased spending in the final quarter of 2017 at the fastest pace in almost two years. The soaring stock market and strong labor market are giving households confidence to spend more money. Turning to inflation, the Federal Reserve’s preferred inflation measure, the Personal Consumption Expenditures Index rose a slight 0.1% in December. The “core” rate, which strips out the volatile food and energy categories, rose 0.2%. Overall, the rate of inflation over the past year slipped 0.1% to 1.7%, and the core rate remained flat at 1.5%.

Confidence among the nation’s consumers continued to strengthen, according to the Conference Board, with its index hitting a 17-year high of 125.4 last month. Economists had forecast a reading of 125. The Conference Board noted one area of uncertainty among consumers was the effect of recent tax cuts on their own incomes. Lower tax rates aren’t expected to show up in paychecks until the beginning of this month. Some have estimated that 90% of Americans could benefit from the tax cuts. In the details of the report, Americans are generally quite optimistic about the next six months with the index of future expectations rising 4.7 points to 105.5—near a 14-year high. However, the gauge of how Americans feel about the economy right now, the present situation index, slipped 1.2 points to 155.3 – but still just a few ticks below its 17-year high.

The Institute for Supply Management’s (ISM) manufacturing index retreated from a recent peak but remained strong last month. ISM’s manufacturing index slipped 0.2 to 59.1 last month, but that reading is still above the 57.4 average reading in all of 2017, and higher than the expected reading of 58.6. In the details, the numbers reveal a slight cooling off from the ultra-strong previous readings. The new orders sub-index dipped 2 points to 65.4, while the production sub-index ticked down -0.7 point to 64.5 and the employment sub-index fell to an eight-month low of 54.2. Of the 18 industry groups included in the survey, 14 reported expansion.

The Federal Reserve left its benchmark short-term interest rate unchanged at 1.25% to 1.5% in the first meeting of the year, a move (or non-move) that was widely expected. In addition, Chairwoman Janet Yellen stepped down and turned over the reins to Jerome Powell, Trump’s pick for new Fed Chair. The Fed continued to strongly hint that a rate hike is likely at its next meeting in March. The Fed made note that inflation is likely to hit its 2% target this year. Persistent low inflation has been the main stumbling block holding the Fed back from further rate hikes. “Inflation on a 12-month basis is expected to move up this year and to stabilize around the Committee’s 2 percent objective over the medium term,” the Fed wrote in its statement, adding that “further graduate increases” in interest rates are likely. The Fed projects three rate hikes this year.

International Economic News: Canada’s economy grew by 0.4% in November according to the latest data from Statistics Canada, matching economists’ expectations. Statistics Canada said 17 of 20 industrial sectors posted increases for the month, with the goods-producing sectors up 0.8% following a -0.5% decline in October. “November’s gain was mainly due to increases in the manufacturing and mining, quarrying and oil and gas extraction sectors, partly as a result of restoration in production capacity,” the federal government agency reported. The manufacturing sector was up 1.8% in November, marking its largest monthly increase since February 2014. Services-producing industries rose 0.3%, led by the real estate and rental and leasing, wholesale, and retail trade sectors. Toronto-Dominion Bank senior economist Brian DePratto said in a research note, “The Canadian economy fired on all cylinders in November: Production resumptions led the way, but nearly all major sectors reported gains on the month.”

Across the Atlantic, the head of the Bank of England Mark Carney continued to forecast headwinds for the British economy in its latest speech to the House of Lords. Mr. Carney had been criticized as being too pessimistic on the economy prior to the Brexit vote. Carney accepted that business investment had held up better than the bank predicted following the EU referendum, but he said areas of the economy were still not firing at rates that were consistent with world economic growth of 4%. Carney did not expect a “disorderly Brexit” to occur, but he stressed that Britain’s banks had sufficient capital reserves to cope with such an outcome should it occur.

In France, the economy expanded for its fifth consecutive quarter, delivering its best full year of performance since 2011. GDP rose 0.6% in the fourth quarter of last year, in line with forecasts. Capital investment rose 1.1%, while household spending increased 0.3% and net trade added to the bottom line. France’s economic revival comes following years of sluggish expansion, and has been supported by French President Emmanuel Macron’s economic reforms and business tax cuts.

The German government sharply upped its economic outlook for 2018 projecting a growth rate of 2.4%, an increase of 0.5% over its previous estimate. Brigitte Zypries, the economy minister, said in Berlin the economy accelerated by 2.2% last year, primarily due to increasing domestic demand. It was its strongest performance for the last 6 years and the eighth consecutive year of economic growth. Some business leaders and economists have started to warn that Germany’s economy, the largest in the Eurozone, is in danger of overheating. The economy ministry addressed the concerns by noting, “Despite a slight capacity overutilization in some sections of the economy, in Germany there is no overheating.”

China’s economy appears to be cooling again with a key reading of industrial activity falling to an eight-month low in January. China’s Purchasing Managers Index (PMI) indicated while activity was still in expansion, it was weaker than expected. The National Bureau of Statistics’ PMI declined 0.3 point to 51.3, remaining above the 50-point threshold that divides growth from contraction. However, the weaker reading was broad-based with key measures of output, imports, and new orders all showing declines and pointing to a weaker domestic economy. Capital Economics’ Julian Evans-Pritchard said the export order index looked particularly weak, “It fell to a 15-month low of 49.5, raising questions about the strength of foreign demand.”

In Japan, an average of 15 nongovernment think-tanks projected that Japanese real gross domestic product likely expanded for an eighth consecutive quarter for the first time since the 1980’s. The increase was driven by a pickup in consumer spending alongside solid exports and business investment. The average estimate of 0.8% was slower than the previous quarter’s 2.5% rise, but in line with the roughly 1% level seen as the potential ongoing growth rate. If preliminary government data due out February 14 confirms predictions of an expansion, it would continue a run of positive growth that began in the first quarter of 2016. This would be the longest streak since a 12-quarter stretch that began in the second quarter of 1986, before the economic bubble of the late ’80s and early ’90s.

Finally: Last week Bank of America Merrill Lynch (BofAML) released a research note that its “Bull & Bear” indicator was sending a sell signal “which has been accurate 11 straight times” since the firm started tracking it in 2002. The latest event to trigger the signal was the $33.2 billion that investors poured into stock-based funds the week before. While normally inflows are healthy for the market, they can be seen as a contrary indicator when they reach extremes of excess. The current reading on the indicator of 8.6 is firmly above the level of 8 established by BofAML as the “Sell” point.

(sources: all index return data from Yahoo Finance; Reuters, Barron’s, Wall St Journal, Bloomberg.com, ft.com, guggenheimpartners.com, zerohedge.com, ritholtz.com, markit.com, financialpost.com, Eurostat, Statistics Canada, Yahoo! Finance, stocksandnews.com, marketwatch.com, wantchinatimes.com, BBC, 361capital.com, pensionpartners.com, cnbc.com, FactSet; Figs 1-5 source W E Sherman & Co, LLC)

The ranking relationship (shown in Fig. 5) between the defensive SHUT sectors (“S”=Staples [a.k.a. consumer non-cyclical], “H”=Healthcare, “U”=Utilities and “T”=Telecom) and the offensive DIME sectors (“D”=Discretionary [a.k.a. Consumer Cyclical], “I”=Industrial, “M”=Materials, “E”=Energy), is one way to gauge institutional investor sentiment in the market. The average ranking of Defensive SHUT sectors rose to 21.25 from the prior week’s 22.00, while the average ranking of Offensive DIME sectors fell to 7.25 from the prior week’s 6.75. The Offensive DIME sectors kept a substantial lead over the Defensive SHUT sectors. Note: these are “ranks”, not “scores”, so smaller numbers are higher ranks and larger numbers are lower ranks.

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Sincerely,

Dave Anthony, CFP®