Markets Weeklys December 7, 2024

hello my friends today is December 7th and this is Markets weekly I hope all of you had a wonderful Thanksgiving over the past 2 weeks markets have been spectacular it feels as if the S&P 500 can only go higher and on Friday we Clos that new all-time highs so today let's talk about three things first are we in a state of euphoria many people are asking this because often times Euphoria comes right before the crash so let's look at some uh common sentiment indicators to see where we are secondly some of the biggest news the

past two weeks came from Europe where we have political turmoil in France let's take a look at what's happening over there and why there are no easy solutions and lastly this past week we got the latest non-farm payrolls report and it's piding mixed though better than expected picture on some extent but ultimately a weak weening labor market so let's take a look at the data all right starting with sentiment so many people are looking at the stock market just going higher and higher and it's reminding them of the 1920s 1920s we had a tremendous tremendous

bull market that was of course followed by the great crash so many people are trying to figure out is the stock market going crazy are we in a state of euphoria so let's look at some sentiment indicators to see if we really are in a state of euphoria now my favorite sentiment indicator is price uh because if sentiment is positive then obviously price continues to go up because you still have people who are buying a stocks at high prices thinking that they will go even higher now if you take a step back now we started

the year around 4700 in the S&P 500 today we're around 6,000 that's a tremendous tremendous to Surge and obviously shows very very positive Market sentiment and we continue to go higher so looking at Price It's very very hard to come to any other conclusion that we are in the bull market and sentiment is very very positive another way to look at sentiment is through surveys so a very common way is simply to survey institutional investors do you think the equity Market are you a bull or are you a bear are you neutral control now looking

at one of the more popular surveys you can see that well obviously at the Institutional Investor Community there are many bulls now even though yeah by plurality there are more Bulls uh it's not historically extreme it is historically elevated but not historically extreme so by this measure yes sentiment is positive but not euphoric um another way to try to measure sentiment is simply to look at Equity flows are a lot of people pouring money into the equity market now looking at the most recent uh fund flow data it looks like there was a tremendous tremendous

surge of cash into US equities in November now that amount of inflows really stands out when you take a take a look take a step back and look at the inflows throughout the year it looks like the outcome of the presidential election really did unleash some animal spirits or at least reduce some uncertainty and made a lot more people comfortable in putting their money into US equities another survey is not a survey to institutional investors but to the general consumer Now consumer sentiment is not directly uh well it is related to the stock market though

it's not a direct survey on the stock market looking at measures of consumer confidence we also see consumer confidence taking higher looking below beneath the surface you do get the sense that there is a strong partisanship bias where Republicans are feeling better Democrats less so but that's something that happens U at every presidential election cycle so it's not out of the ordinary overall though it does seem like consumer confidence is higher now one other really important sentiment indicator is the amount of Leverage in equities now in the 1920s when we had the growing 20s there

was tremendous amounts of people borrowing and investing in the Spock market so margin debt was very high at that time interest on margin loans were as high as 12% uh much much higher than the uh the fed's policy rate back then but even though investors were paying 12% for their margin loans they continued to borrow because many of them felt that they would make even more money in the stock market and they weren't wrong so fast forward today it's a little bit harder to get a good measure on Leverage in the financial in the stock

market uh because people don't really borrow on margin as commonly as they used to and that margin that data is not as easily accessible what seems much more common today is to speculate using options so when you're looking at for example some of the uh more frothy tech stocks you'll notice that the call implied evolve for call options tends to be very elevated now that is a obvious sign that there is tremendous speculative interest looking at call options for the S&P 500 features what really stands out to me is that imply all on call options

is really low and that tells me there's not a lot of speculative interest at least through call options as a way of gaining leverage uh which in my view if you are say a Institutional Investor that would be a more direct way of doing it and at the moment it looks like a pretty cheap way of doing it too so that measure is clearly suggesting that there's not a lot of euphoria in the market so taking a step back and looking at all these different indicators uh my sense is that obviously sentiment is very positive

but not euphoric now to be clear Market can still go up and markets can still go down we have to look at many many factors at to try to make our best judgment but looking at sentiment alone it doesn't seem like markets are euphoric at least not at the moment definitely very positive though uh okay uh the second thing that I want to talk about is is what's happening in Europe so again we've talked about this before but France has had some political difficulties in recent months now president Mone over there called for SNAP elections

not too long ago uh thinking well I'm actually not really sure what he was thinking but definitely did not like the outcome what happened was that he ended up with a parliament that was you know not in his favor so the election results led to a very fragmented uh parliamentary situation where on the one hand you had about a third of the people supporting right leing parties a third of the people who are establishment and a third of the people who are left leaning and so that made it very difficult for president macron uh to

to uh to govern so he recently nominated a prime minister and the Prime Minister came up with a plan and the plan was to um you know reign in some defit spending because France has a very large budget deficit now that was very un popular because both the right leading parties and the left leading parties in France are populist and so they don't like cutting the deficit they want to be able to help well at least give more money to the common person and so uh that budget did not work and that led to a

result of a no confidence motion that passed and so uh it looks like the government uh is going to has fallen and that leads us to a point of limbo where president has to nominate a new prime minister who has to come up with a new budget that that everyone can accept which would be difficult now that has led to some financial implications where you can see that the barring rate for France so French as French sovereign debt yields as a spread to German yields has widened recently now it's come back a little but if

you take a step back the trend really seems to be very very clear a winding where France where it seems like the market is having uh more and more concerns about France's U fiscal situation now this is a problem that is not that has been actually a long time coming and is not unique to France now taking a step back you can see that France has actually had a fiscal deficit for a really long time and so its debt has been growing and growing the way the political system is in all basically Western countries including

the US is that politicians step up and they you know they basically bribe you to vote for them vote for me and I'll give you more benefits and uh France is obviously well known for having a very generous welfare system so how do you pay for all these benefits well it's actually if you are like the US that's really never a problem because at the end of the day you are monetary Sovereign you can pay for it by printing more treasuries or which again and if yields are too high you can always at the end

of the day have your Central Bank the Fed buy it but when you are in yourand it's kind of a different situation uh because being a part of the European Union you promise to have some limits on your deficit and you are not a monetary Sovereign you don't control the ECB so in some sense you're kind of like under the gold standard so you can't really easily um just kind of print your way out of this mess so how do you make those promises then well another common way is to have growth and so for

example if you think about this in real terms you promise a whole bunch of people a certain amount of goods and services now where do you get those goods and services well one way is to just tax so take more from the PE from one from one group and give to another and that's kind of what they've been doing over the past few decades if you look at a graph of marginal tax rates in France and in Europe where generally you'll notice that they're very high um and to be clear these marginal rates hit uh

these margin rates come into Force at pretty low income thresholds compared to the US in some countries you can pay the highest marginal rate at below €100,000 e in some countries around 200 and in some countries around 300,000 so that is much lower than the US where highest marginal tax rates um about 37% hit at around 600,000 and so they've been doing that for some time just raising taxes to take goods and services for from one group of people to pay promises that they made to other groups but obviously you can't keep doing this because

ultimately maral taxes become so high that you know it's it it it it actually impacts reduces the motivation to invest into work so another way that you can meet these promises is to grow and that's a place where there's been a lot of trouble in EUR land so as we all know growth in EUR land has been low in large part because of low productivity productivity is the ability to create more goods and services out of the same amount of inputs now productivity looking at Euro Zone compared to the US is is really different now

productivity in the US is continued to grow in in Europe really not so much the biggest difference is technology Europe kind of missed the technological Revolution we had in during the tech boom and it seems like it's about to miss out on the aite Tech boom there's some really interesting work by researcher at MIT looking at the amount of new companies started over the past 50 years that have a market cap of greater than 10 billion now on the left hand side you can see these are the companies that fit that profile in the US

on the right hand side these are the companies that fit that profile in euroland so you can see that Europe really is is not innovating as much as the US and that's hurting their productivity which makes it very difficult for them to pay off their promises using uh an expanding pie so going back to the situation in France and soon other Euro countries how are you going to pay all your promises if you can't print and you can't tax and you can't grow so this is a very very very difficult situation and there are no

easy answers and that suggests you know a very very pessimistic outlook for for euroland in the coming years now we see the Euro has depreciated steadily over the past few months now we're at around 1.05 and it looks like the ECB is going to continue to cut rates potentially a jumbo 50 bases might cut in December and so that that looks like it's it's going to continue and there are really no easy solutions um I think it's you know not sure how they were going to get out of this okay the last thing that I

want to talk about is the most recent labor market data so you know right now the FED is really in Focus about what's happening in the labor market as we've discussed before Cher po doesn't feel as concerned about inflation anymore he's really focused on labor so how is the labor market doing this past week we got the latest n form payrolls report and it's painting a bit of a mixed picture now as usual let's go over this by looking at the details well first off on the headline basis uh the amount of number of jobs

created uh was higher than expected so that's good but looking below though you get kind of a mixed sense now average hourly earnings 0.4 month of a month higher than expected but here's the thing the unemployment rate ticked higher to 4.2% and if you really go out to the third decimal place it was actually very very close of rounding to 4.3% and something of interest is also the labor force participation rate declined a bit so you have fewer people looking for jobs so all in all this is kind of painting a picture where um the

Libor Market is very clearly weakening you got fewer people participating and even though you have fewer people looking for jobs the unemployment rate is rising so uh I think the market took a look at this and was marginally marginally pricing in a little bit more of a probability of cuts and I think that is the right solution but we can also look at other survey data to get a sense of what's happening in the labor market looking at the common uh fed beebook data for example where the various Regional feds survey a wide web of

contracts to get a sense of where they are they're coming up with with a conclusion that now the labor market is kind of muddling through there's not a lot of hiring and there's not a lot of firing so it's kind of a stagnant position right now uh which I I think would be consistent with what we see and the just kind of lukewarm job growth data now looking at other survey data like the ism Services you you'll find that yes on average because the employment component of the ism Services is above 50 that on the

margins there is some growth in employment but it's not super strong that is to say only uh small amount of companies are reporting that uh they are increasing their employment on that so overall I think it takes makes a lot sense for the FED to be more mindful of the labor market and we could simply be in a slow patch right now as we have you know the data could be lagging after all we have this election positive Market sentiment perhaps the market is leading and maybe that will translate to to more job growth but

I'm thinking that the labor market is probably going to weaken faster than than the markets uh expects in large part uh looking at what's happening in other countries that had surges in and migration I think that's what I will write about in my post this week um okay so next week we're going to have a whole bunch of Central Bank meetings and soon we will have the fed and then it's really going to be the holiday season and at that time I will offer my markets outlook for 2025 right talk to you all soon