Fundamentals:

The PWA [Macro] Index declined 1.19 points to 53.57. While the weekly decline was marginal, there were some notable developments internally: The economic subindex declined 6 points to 58.0. Areas of note were consumer debt outstanding, which spiked markedly month over month in dollar amount, while the year over year % increase and % of GDP metrics remain relatively tame. The month over month increase inspired me to move the consumer debt score from positive to neutral. Industrial commodity prices turned negative across the board, reflecting tariff angst and a stronger dollar. The CRB Raw Industrials and the Bloomberg Commodity Indices now read neutral (each losing a point in score [from +1 to 0]), with copper receiving a negative score (-1). However, bucking that trend, the Baltic Dry Index (tracks the cost of shipping dry bulk commodities across the world’s oceans) spiked higher last week (a bullish global economic signal).

Offsetting the decline in the economic subindex was an improvement in the financial stress subindex (the ML Global Financial Stress Indicator component dropped below zero [denoting below average financial stress in the system] after a short stint above zero for the first time since Feb ’17), while the financial markets subindex rose 8.69 points, with strongly improved breadth readings offsetting lower scores (from bullish to neutral) in the individual investor and investment adviser sentiment components (ironically, both showed large increases in bullish sentiment, so much so that they become contrarian warning signs).

In terms of valuation: Large cap U.S. stocks (S&P 500), on a forward earnings basis, reads neutral (not expensive or cheap). On a sector by sector basis, financials, homebuilders, telecom services and biotech sport extremely attractive (cheap!) valuations. REITs and consumer discretionary’s forward p/e’s place them both in “expensive” territory, while tech and energy are the 3rd and 4th-most expensive sectors (at the high end of the neutral range) respectively. Industrials, materials, utilities and staples sit firmly in the neutral range, while materials, transportation, and health care are trading at attractive valuations. Foreign stocks are either cheap or attractive nearly across the board: Of the 17 foreign equity ETFs we track for valuation, 12 are extremely attractive (cheap!), 4 are attractive, with 1 (India) reading neutral.

Summary:

While the technical and fundamental setups have deteriorated some since the start of the year, the weight of the evidence still favors a continuation of the present bull market and a move back to all-time highs before we experience the next recession/bear market. The greatest challenge to presently bullish conditions remains the uncertain state of international commerce. The fact that the market (NYSE Composite) has delivered essentially flat results year-to-date, against such a serious threat, speaks to the strength of the general setup. Should, however, this escalate into a protracted global trade war, we will no doubt see the macro backdrop deteriorate* at an accelerated pace, which will have us actively accommodating for the heightened risk within client portfolios if/when probabilities begin to favor recession, and, thus, a bear market in equities going forward.

*The following commentary from respondents to last month’s ISM Manufacturing Report on Business survey will help readers understand our concern:

“U.S. tariff policy and lack of predictability, along with [the] threat of trade wars, [is a] causing general business instability and [is] drag on growth for investments.” (Electrical Equipment, Appliances & Components)

“We export to more than 100 countries. We are preparing to shift some customer responsibilities among manufacturing plants and business units due to trade issues (for example, we’ll shift production for China market from the U.S. to our Canadian plant to avoid higher tariffs). Within our company, there is a sense of uncertainty due to potential trade wars.” (Food, Beverage & Tobacco Products)

“The Section 232 steel tariffs are now impacting domestic steel prices and capacity. Base steel prices have already increased 20 percent since March.” (Fabricated Metal Products)

“The economy and product demand still continue to be strong. Having trouble finding people [to fill] blue collar positions. Lead times for parts and materials are moving out, and we are seeing commodity cost pressures increases with the threat of tariffs. Additionally, suppliers are asking for more price increases.” (Machinery)

“The uncertainty of U.S. tariffs and the Canada/Mexico/E.U. retaliatory tariffs continues to cloud strategic planning efforts. Contingency planning (for tariffs) is consuming large amounts of manpower that could be used for more productive projects. The tariffs are improving margins in our raw material businesses; however, our businesses which are further up the supply chain are seeing significant inflation.” (Miscellaneous Manufacturing)

“The steel tariffs continue to drive uncertainty. Projects and services using steel have limited days that prices are good for. Trucking is tight, requiring advanced planning and increasing costs.” (Paper Products)

And here’s from the ISM services survey:

“Tariffs, freight [issues] and labor shortages continue to have an inflationary influence on costs.” (Construction)

“Crude prices are causing concern, as it is a driver in newsprint inks. Tariffs on paper and aluminum are causing apprehension about future pricing. Suppliers are posturing and threatening price increases, and we are doing our best to reject increases.” (Information)

“Trade tariffs are creating price uncertainty.” (Management of Companies & Support Services)

“Domestically, we are still experiencing a shortage of transportation providers that is getting worse each month when retiring drivers or drivers moving into other opportunities are not being replaced. Internationally, there is a shortage of flat racks [that] has caused late shipments. The tariffs on steel and aluminum have also had some negative effects on our supply of material, but we have applied for exemptions.” (Other Services)