Stocks Rise On Phase 1 Deal
The stock market has had many rallies and dips in the past few weeks on trade news and rumors. It was apropos that there were 2 more twists on the day of the meeting with the Vice Premier. As you can see from the chart below, positive trade rumors sent stocks higher. Then, at the end of the trading session, stocks fell when the news on the phase 1 deal came out.
S&P 500 fell 0.75% in the last 20 minutes of trading, but still closed up 1.09%. United States and China made a deal without making a deal.
Investors bought the rumor and sold the news. Trade between China and America will probably never go back to the way before it was President Trump was elected. Democratic candidates for President won’t go easy on China either. You can tell this is a rare bipartisan issue. Politicians from both sides of the aisle criticized the NBA over its apology for the Houston Rockets GM’s tweet in support of the Hong Kong protests.
Deal But Not A Deal
Phase 1 is to spend 3 weeks negotiating on a deal to agree upon intellectual property and financial services concerns and for China to buy $40 to $50 billion in U.S. agriculture. Furthermore, the tariff increase from 25% to 30% on $250 billion worth of goods on October 15th won’t be put in place. This is all good news, but it’s not complete for several reasons. That explains why stocks sold off at the end of the trading session.
Firstly, there was disagreement earlier this year after China agreed to buy soybeans. America said China didn’t follow through on the agreement, while China said it did. This situation can occur again. It’s also notable that China needs to purchase American pork because it has a shortage.
Biggest issue with phase 1 is there are no details. It can easily be delayed after 3 weeks or canceled. This entire plan to negotiate is a slightly more formal plan than the previous ones that failed. Finally, the other tariffs put in place previously won’t be rescinded. A 15% tariff on $112 billion worth of goods on December 15th is still on pace to be enacted. It’s not clear what phase 2 of the deal is. We just know that it will get going after phase 1.
There’s no reason to buy stocks because of this news. If phase 1 gets done and the details come out, then stocks should rally. The can has been kicked forward. To be clear, it’s much better that they are talking than raising new tariffs. At the very least, there has been a partial pause in the trade war. The situation is still uncertain though.
Specifics On Friday’s Action
It’s tough to discuss each day’s action because every day it seems like we’re on the edge of getting more news on the trade situation. Every day, the market has the potential to rise or fall sharply if there’s progress on a deal or if talks get worse. For traders that love big shifts in the market, this is great. There’s always the potential for them to make money. For intermediate term investors, it’s tough to make trades because it’s tough determine which way rumors will go each day.
On Friday, the Nasdaq rose 1.34% and the Russell 2000 was up 1.79%. VIX was down 1.99 to 15.58 which is very low considering the news that’s still coming. We have trade negotiations that could go badly, earnings season, the Fed meeting, and the Democratic debate all in the next 3 weeks.
Personally, I think it’s a great time to buy protection. I don’t see the S&P 500 hitting a record high any time soon. It’s back near 3,000 which acted as resistance in September. With the rally in the past 3 days, there is less negative sentiment to drive stocks higher. S&P 500 increased 2.67% in that period. CNN fear and greed index increased 6 points to 42 which is the high end of the ‘fear’ category.
This was a perfect ‘risk on’ day because only real estate, utilities, and consumer staples fell. Biggest winners were industrials, materials, and technology which were up 1.97%, 1.91%, and 1.49%.
Interesting EPS Growth Expectations For 2020
It’s very interesting that the 3 sectors in the global MSCI index that are expected to have the highest earnings growth are energy, materials, and industrials. As you can see from the table below, they are expected to have 18.1%, 15.2%, and 13.7% growth. These sectors are the most impacted by the trade war and the global slowdown. I think these estimates might exist because they have easy comps. If that’s the case, this is a dangerous set of estimates. They can easily be cut.
On the other hand, if you’re expecting a cyclical turnaround, these estimates might be correct. If you believe these estimates, you should buy these sectors. I haven’t seen enough evidence to suggest global manufacturing is about to improve. If you buy a sector with little evidence of a turnaround and the turnaround happens, you’ll make a big profit.
If you wait for the global manufacturing PMI to get above 50 before buying, you’ll miss out on a lot of the gains. That said, you won’t miss out on them all. I’d be ready to buy these groups on some good economic data. The 2020 economy could be similar to 2017 when there was a global cyclical recovery. A trade deal would help the global economy get there.
Conclusion
There was never going to be a trade deal after this meeting, but in the past few days, stocks rallied like that was possible. A dose of reality hit when the news came out that there will be 3 weeks of negotiations to get phase 1 of the deal done. To be clear, this is still good news. October tariffs won’t go into effect. In essence, the market is back where it started after the trade related volatility and subsequent rally.