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Stocks advanced handsomely again yesterday as oil prices rose as Iran backed a production freeze without pledging supply curbs. The economic data also was encouraging. Industrial Production and Capacity Utilization was stronger than expected as well as the core and overall PPI.
Commenting about oil, according to the Commodity Futures Trading Commission, on February 9 short interest rose to the greatest amount, two days before oil bottomed around $26/barrel. Moreover there was a record number of contracts outstanding representing over 80x annual production.
I think it is understatement that the sentiment of the oil (and equity) market is extremely negative and any type of news that was even remotely neutral would trigger a strong advance. At the time of this writing, oil is around $31/barrel or up approximately 19.2%. Is oil poised for greater gains?
All have been universally wrong about oil, a tract record that is equivalent to the expected direction of interest rates. If the economy is poised to rebound and if production is reduced, oil’s rebound should continue.
In my view the macroeconomic and oil environment is similar to that of 1999. Oil plunged about 60% in 12 months with all expecting crude to fall into the single digits because of excess supplies and anemic growth. Oil bottomed in March around $13/barrel, rallied about 50% in 20 days and was around $20 by year’s end. Why? Supply cuts and stronger than expected growth that increased demand.
As noted above yesterday’s data was stronger than expected, following the trend of recent data releases.
The Minutes from January’s FOMC meeting were posted yesterday and generally speaking the Committee has not yet observed any economic effects from market volatility but such “increased risks to the US economy if conditions were sustained.” At this juncture the FOMC is still suggesting it will continue with a “gradual adjustment in the stance of monetary policy closer to normalization” albeit four increases may be questionable.
JP Morgan stated yesterday the current data is consistent with 2.0% to 2.5% growth. Moreover the Bank commented the valuation spread between momentum stocks to value stocks is at an “extreme premium,” further stating the valuation spread is the highest since 1980.
I will viscerally argue this “extreme premium” is the result of HFT and ETFs which has completely dominated the markets over the last sixteen months.
JP Morgan stated that it believes that during 2016 value will out perform momentum for the first time since 2009.
For those hung in value and the typical stocks, all hope this is an accurate view.
Is this current advance bona fide or is it just high frequency trading? I do not know how to answer this question other than to reference Goldman Sach’s remarks that value has outperformed momentum by a 6:1 ratio since February 8.
Last night the foreign markets were up. London was down 0.26%, Paris up 0.95%, and Frankfurt up 1.68%. China was down 4.45%, Japan up 2.28% and Hang Sang up 2.32%.
The Dow should open nominally higher as oil is up about 2.5% this morning.
I think a point made by Bloomberg this morning is significant. Bloomberg writes the lockstep moves that have paralyzed investors during the recent rout are beginning to ease. The 30-day correlation between the S & P 500 and 10 other asset classes including oil and global stock markets have fallen in the past two weeks. I rhetorically ask have HFTs, and perhaps answer the above question, has the influence of HFTs reached their apex? The beaten down oil and financial stocks have led the recent advance.
The 10-year is unchanged at 1.82% yield.

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Ken Engelke

Chief Economic Strategist Managing Director

The views expressed herein are those of Kent Engelke and do not necessarily reflect those of Capitol Securities Management. Any opinions expressed are statements of judgment on this date and are subject to certain risks and uncertainties which could cause actual results to differ materially from those currently anticipated or projected. Any future dividends, interest, yields and event dates listed may be subject to change. An investor cannot invest in an index, and its returns are not indicative of the performance of any specific investment. Past performance is not indicative of future results. This material is being provided for informational purposes only. Any information should not be deemed a recommendation to buy, hold or sell any security. Certain information has been obtained from third-party sources we consider reliable, but we do not guarantee that such information is accurate or complete. This report is not a complete description of the securities, markets, or developments referred to in this material and does not include all available data necessary for making an investment decision. Prior to making an investment decision, please consult with your financial advisor about your individual situation. Investing involves risk and you may incur a profit or loss regardless of strategy selected. There is no guarantee that the statements, opinions or forecasts provided herein will prove to be correct. If you would like to unsubscribe from this e-mail distribution, please reply to this e-mail and indicate that you wish to unsubscribe in your response.