Global Growth On Upswing

5/15/2017


Among those skeptical of the stock market's advance, one common lament has been the lack of confirmation from the bond market. If the stock market's advance is truly justified by the economic outlook, goes this argument, bond yields should
not be so low.

At 2.4%, the yield on 10-year Treasury bonds is not far above the all-time low of 1.4% reached in July — and well below the 50-year norm of 6.5%.

Also worrying the bears is the slump in oil and other commodity prices. U.S. oil prices have dropped 14% since Jan. 1, while the Thomson Reuters CoreCommodity CRB Index has dropped nearly 8%. Copper, one of most economically sensitive commodities, has dropped more than 10% from its February high.

Yet forecasts for the global economy have held up well. Europe delivered its best growth in years in the last two quarters. China reported 6.9% annualized growth for the March quarter, its best showing since 2015. The International Monetary Fund predicts global growth of 3.5% in 2017 and 3.6% in 2018, up from 3.1% in 2016.

Tame inflation

So, if growth is improving, why are commodity prices slumping and bond yields range-bound? Bears argue that economists have been misled by soft data like surveys of consumers and purchasing managers, that hard data like retail sales and industrial production point to continued sluggish growth.

Bulls argue that commodity prices have been hurt by concerns regarding oversupply. Bond yields remain low, bulls argue, because of low inflation and strong demand for safe assets.

The Federal Reserve's preferred inflation gauge, the price index for personal-consumption expenditures, fell 0.2% in March from a month earlier. The core index, which excludes food and energy, dipped for the first time since 2001. Core prices rose 1.6% from a year earlier, below the Fed's 2% target.

While shares of energy and materials producers tend to benefit from higher inflation, most stocks do not. Higher bond yields would help bank earnings, but most stocks are likely to perform better if yields remain low. As famed investor Warren Buffett said recently, "stocks are dirt cheap" if rates remain near current levels or increase only modestly over the next 10-plus years.

Conclusion

We're inclined to side with the bulls, but we'd have more confidence if the Dow Transports and other cyclical stocks were showing better share-price action. With closes above 9,593.95 in the Dow Transports and 21,115.55 in the Dow Industrials, the bullish primary tend would be reconfirmed. For now, our buy lists have 89% to 92% in stocks.


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