The Trump Rally is over

A lot of people are saying the rally in shares since early November that took the Dow over 20,000 is exhausted. That may be the case. However, short of a 1987-style crash, we’re going to have see a recession before shares retreat dramatically from present levels. And the data don’t support the thesis that a recession is coming anytime soon. Instead, we are now seeing a re-acceleration of growth from a mid-cycle slowdown. And that is supportive of shares.

Let’s go back to 2014. US economic growth was accelerating from its post-recession low of 1.03% in mid-2013. By Q1 of 2015, growth had hit a post-recession high of 3.31%.

US GDP Growth

Then, the wheels came off. In 2015, US GDP growth began decelerating under the weight of a massive capital investment slowdown in the oil sector. Economists told us the dive in oil prices was supposed to be an unalloyed benefit for the US economy. It wasn’t. What was a boon for consumers was more than offset by losses in the oil patch and the ripple outward into the rest of the economy. Mind you, none of the measures I follow said recession was imminent. Nevertheless, coupled with anemic growth elsewhere, there was a real reason to believe the US economy could tip into a recession.

That all came to an end last year. After the recession scare in early 2016, shares resumed their climb upwards – a move confirmed by a rally in high yield bonds. And eventually, the selloff in Treasuries late in the year confirmed all around that the US economy was re-accelerating. Rolling US GDP growth now sits at 1.90%, up from 1.27% in Q2.

So where do we go from here?

If you look at the manufacturing sector that took it on the chin the most during the oil-induced slump in the US, the numbers look good. And they show signs of inflation in the background

ISM 2016 12

And in the services sector, which dominates economic output, the numbers show business activity and new orders up for well over 80 months now.

ISM Non Manufacturing 2016 12 

You look at the jobs reports and jobless claims and again, there are no big chinks in the armor.

I think Wall Street has every reason to be optimistic about the near term.

Over the medium and long-term is where the problem lies because every measure of price to earnings shows the US markets to be elevated by historical standards.

SP500 P E Ratio 2017 01

Market P E Ratios

The bottom line: a lot of what we have seen during this rally in shares – not just after the election, but during the entire period of US recovery and expansion — is P/E multiple expansion. And so Maybe the Trump Rally IS actually over and we will take a breather while the market consolidates. Nevertheless, in the absence of an economic catalyst to pull markets lower like a recession, I don’t see the Trump rally turning into the Trump rout. The real question is what happens to P/E multiples when the economy rolls over and corporate releveraging and buybacks are forced to end. My guess is they go down just like earnings – and that will mean a major bear market in shares. We’re not there yet though.

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