7/29/19 Monday

Huge week for markets this week, as 168 members of the S&P 500 will report earnings, as the Fed will reduce its benchmark interest rate for the first time in over a decade, as the economic data calendar from Tuesday-on is loaded, and as U.S. and Chinese trade negotiators meet in Shanghai.

At all time highs there’s no question that the stock market is pricing in the following:

1. The majority of companies will report earnings that beat expectations, and, more importantly, issue positive forward guidance.

2. The Fed will cut interest rates by .25% and, as importantly, signal more to come.

3. Data will come in weak enough to substantiate the Fed rate cut.

4. The U.S. and China will seal a deal on ag products and Huawei, while committing to keeping negotiations on track going forward.

In the very short-run, the Fed meeting is without a doubt the most important item on the list. While one could argue that the data justify a wait and see approach, the Fed clearly sees cracks forming in the foundation, and, while they’re not the kinds of cracks that Fed policy can do more than superficially fill by boosting asset prices, they have no choice but to give it a shot nonetheless.

In the long-run, the U.S./China trade situation trumps everything else on the list, as the disrupting of the global trade system is what’s causing the cracking.

Looking at probabilities, it makes sense that the market traded higher into this week, as, to the extent that the players can control the outcomes (the Fed and trade talks), they have huge incentive to do so.

If, however, there’s a misstep; perhaps the Fed doesn’t appear scared enough, or China, with its new addition to the negotiating team (viewed as a hard-liner) isn’t willing to play ball (Chinese headlines Sunday say they will be [via increased ag purchases]), or both, the attendant selloff from these levels is likely to be ugly.

As for earnings, while indeed the trade war is a topic in the conference calls, the forward guidance isn’t sounding the alarms that the likelihood of another year of the existing tariff regime might justify. I suspect next quarter’s calls (assuming no relief in existing tariffs in the meantime) will have CEOs feeling far less sanguine.

The disastrous effects of a protracted trade war; one that extends to the EU, Vietnam, India and so on are I’m guessing so obvious to traders and investors that they simply don’t believe it’ll happen. If they’re right, the market’s all good well into the foreseeable future. If they’re wrong, the longest economic expansion and bull market in stocks in history will come to an abrupt and I suspect ugly end before its time.