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A Trade Deal Will Slow the Bleeding - But Here Is the Real Issue

Posted by Pete Stolcers on August 28

Posted 9:30 AM ET – We are currently in a news vacuum and the volume is light. Traders are latching on to any information they can find and Trump is keeping us busy. His tweets about Chinese tariffs and the Fed are producing intraday action during a historically dull period (summer doldrums). There are many macro issues that Asset Managers are sorting through. I believe that the S&P 500 will test the 200-day moving average in the next two weeks.

A trade war with China is likely. Trump and Xi will try to put lipstick on this pig to keep their respective markets from tanking. Harsh comments/actions will lead to a market drop and then the tone will soften and we will see a bounce. Xi has no intention of signing a trade deal before the 2020 election – even if China’s economy suffers. Trump is the first president in decades to challenge them and he stands in the way of China’s 2025 manifesto.

China has been devaluing their currency for many years, but now it might be forced to defend it. Foreign investment is declining at a rapid pace and the yuan is falling. Decades of hyper-growth and government subsidies create excess (inefficiency). If China’s economic growth slides we could see defaults in their $20 trillion shadow banking industry.

Asset Managers will be watching global credit very closely as economic conditions deteriorate. It is the only thing that can lead to a sustained market decline. Investors are forced out on the risk curve (long equities) because global bond yields are not keeping pace with inflation (bond investors lose purchasing power because of negative real returns). Money will stay in equities as long as credit concerns remain low. Some money is already shifting into bonds and that explains why some investors purchased Germany’s thirty-year treasuries that have a 0% yield.

Trump’s trade wars are not the issue. Global economic conditions were slipping before he even took office. Trade deals will temporarily restore investor confidence, but they won’t stop the global economic backslide. Many central banks are “out of bullets” and they are not able to stimulate economic growth through monetary easing. Governments are running massive deficits and fiscal stimulus is also not an option.

Boris Johnson has asked the Queen to suspend Parliament when they return from recess in September. This act would prevent them from blocking a hard exit. His intentions are clear and the EU is also standing firm. This is a train wreck in the making and it will play out in October. The Irish backstop is the remaining issue.

Next week the economic calendar is loaded in a holiday-shortened week. Official PMI’s, ISM manufacturing, ISM services, ADP and the Unemployment Report will be released. Any sign that global weakness is spreading to the US will be met with profit-taking. If domestic economic growth is stable the market will tread water with the expectation that the Fed will cut rates on September 18.

Stocks are trading at the upper end of their valuation range (forward P/E of 17) and good news is priced in.

Swing traders should remain sidelined. Market conditions are extremely volatile and intraday news makes it very risky to hold overnight positions. I believe that the S&P 500 will test the 200-day moving average in the next couple of weeks and that might present a longer-term buying opportunity. However, we won’t know until we have clarity on some of the issues I’ve outlined. If that major moving average is breached we could see more downside. This is a low probability swing trading environment.

Day traders should watch the first hour range. If we are above the high, favor the long side. If we are below the low, favor the short side. Since we are below the 100-day moving average I have a slightly bearish bias. Trading volume will remain light the rest of the week and conditions are choppy. There is no need to chase a trade. Stand firm on your entry price. It’s critical to be patient and in a choppy market the price will almost always come back to you. When you have profits, scale out. Reduce your trade count and size.

I will not be posting market comments Thursday or Friday.

Happy Labor Day!
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