In many ways the confusion of U.S. citizens relating to political allegiances in this presidential election cycle, and the difficult choice many will have to make, country over party, resembles the consternation many investors have faced in 2016 as it relates to the stock market and the fear of missing out on a new leg of the bull market. As someone with no party allegiance I find the choices between the two candidates fairly simple as it relates to my worldview, but I clearly understand the views of those who will place a vote for change, no matter how strange that vessel may be.
While there have been no shortage of movements to attempt to unseat both party front runners throughout the course of 2016, the latest effort by some very influential Republicans to Dump Trump (Maine Senator Collins), titans of industry & finance, and some real billionaires (former Treasury Secretary & Goldman Sachs CEO Hank Paulson, former NYC Mayor and Bloomberg Financial founder Mike Bloomberg & Dallas Mavericks owner Mark Cuban) and what seems to be a mounting group of former Intelligence and military peeps (ex-directors of the CIA Michael Morrell & Michael Hayden, retired Army Gen. Barry McCaffrey), may at the very least sink his electability. Maybe this is a small and specific sample, but it appears that some of the aforementioned Republicans would like to see the party dump Trump as their party standard bearer for fear that he will destroy the party whether he wins or not. Some are set to ask the Republican National Committee to invoke a never used legal provision which would allow for a change on the ticket, in the event of “death, declination, or otherwise“. While the first two are quite clear, the last bit is a little vague. Obviously it’s a long shot, as the battle for who would replace might cause as much permanent damage to the GOP than just leaving Trump in place to possibly get trounced in November while also losing the Senate. What’s clear here is that it’s not only the GOP that faces an existential crisis in 2016, but possibly the two party system as we know it (and I could go on with the fissure in the Democratic party, but it’s far less exciting and impactful on the current political landscape).
Which brings me back to the markets. This political crisis of confidence is not too different than that of investors in the current environment. Investors at this stage of the game have been forced to embrace some fairly unholy principals in search for returns, which is even more concerning when you consider the risks taken to merely secure a reasonable yield.
Global stock markets in 2016 got off to their worst start of year since 2009 in Q1 as fears of a global economic slowdown coupled with the decreasing confidence in accommodative monetary policy to keep the risk asset ship afloat. Since the February lows, most major equity indices have stabilized with the S&P 500 (SPX) at all time highs, up 20% from its Q1 lows and up nearly 7% on the year. While European equity indices have had their fits and starts, the UK’s FTSE is now up 9.5% on the year, despite the fears concerning Brexit, and the largest index in the region, the German Dax, while still down 2% ytd is possibly on the mend despite the slow brewing banking crisis:
— Bloomberg (@business) August 9, 2016
When news agencies like Bloomberg are saying the Bull is Back, it might be time to consider the hows and whys. While the Shanghai Composite in China and the Nikkei in Japan are still down 14.5 and 12% respectively on the year, they are up 14 & 13% respectively from their 2016 lows… is the bull about to reappear in those maligned markets? What’s clear here is that the relative calm in U.S. equity markets does not adequately reflect the angst in almost every other part of society, most importantly and obviously in the political arena. Just like last summer, with global growth fears and a dicey geopolitical backdrop, spot VIX (CBOE Volatility Index) has hit new 52 week lows, very near the 2015 lows which also happen to be the all time lows:
While Spot VIX barely tells the story about risk being priced into the market, I’d add that December VIX futures are trading a touch below 18, while the curve is steep the absolute number is well below the long term average 2o. Options of the etf that track the S&P 500, the SPY are pricing in about a 6.5% move in either direction between now and year end, which given the increasingly volatile political environment, the nearly 20% vertical move in the SPX and the high levels of complacency, that seems a tad cheap to me. As I consider the risk reward of putting new capital to work in U.S. equities at all time highs, I think it makes sense to consider the breadth, which appears to be improving both internally and externally which is evidenced by the inclination of stock markets in the last month or two ignoring any and all bad news (Brexit, terrorism etc), but it is the or otherwise that should cause investors to possibly be cautious when others are being greedy. I have no idea how the current political mess is going to play-out, but the idea that established GOPers are starting to consider the otherwise tells you that what is easy, and suits one’s own personal greed is not always the right choice.