Actually, the full quote is, “Strange ‘disconnect’ in the market is raising a red flag for one market watcher.” The watcher is Matt Maley, equity strategist at Miller Tabak + Co, LLC. The quote comes from a report early this morning on CNBC, renowned oracle of Wall Street. Maley’s issue with the the market and the disconnect is that while stock prices have moved to record highs, bonds prices and the dollar have move sideways. With the market very overbought Maley (or maybe CNBC, ALWAYS LOOKING ON THE DARKSIDE) suggests if this ‘disconnect’ continues in the new year it could spell trouble for stocks.
It is not uncommon for CNBC to use negative headlines such as this to grab eyeballs when, in fact, the actual comment is pretty innocuous. Importantly, there should be a divergence develop between the bond market and the stock market if the new tax cuts stimulate greater growth in the economy. Bond prices should move lower with yields moving higher. Higher US rates should attract demand for dollars but there is no guarantee of that since globally many economies are on the rise, creating a concomitant increase in their rates and demand for their currencies.
So, to put things in perspective, higher rates are probably coming as a result of the tax cuts. This would be normal (to be expected) and the higher rates may give way to a significant correction in stocks … after which the secular bull market resumes.
The Next Big Thing (worry about higher rates)
However, the media will not take higher rates as a normal reaction to stronger numbers from the economy. To them it will be the beginning of the end (The Next Big Thing) — excuse me, the end of economic and stock market life as we know it. Higher rates will presage higher inflation which will beget further higher rates — the death spiral into recession and ruin.
Of course nothing could be further from the truth (at least in the short-run). For the past eight years there has been a persistent worry about deflation (deflation on a worldwide basis) in the minds of many observers, that with all the money-printing that went on all around the world we could not stimulate more growth. Make no mistake, inflation is a long-term concern. However, in the grander scheme of things, a little more inflation is a good thing.
One of the reasons for the lethargic recovery we have experienced in earnings is the lack of pricing power that the current low-inflation environment has levied on corporations. In a normal environment corporations can raise prices from time to time to compensate for higher costs. Often those price increases cover more than rising costs. When coupled with unit growth and cost efficiencies you have a much more robust earnings growth climate, which, if moderate inflation returns (2.5 to 3%), could provide earnings surprises. Importantly, moderate inflation is not a bad thing for stocks.

With the tax cut on top of an already-improving economy rates have already begun to tick up a bit. This is not surprising and, as we move forward, we should expect and welcome higher rates as a sign of better economic times to come. Check out this piece from one of my favorite sources, Scott Grannis (“The Bond Market Begins To Figure Out Things”). Guaranteed, higher rates as a positive will not be the media’s take. Forewarned is forearmed!
What do you think?
I think, for my part, I’ve said enough this year. Thank you so much for your readership, comments and questions. I look forward to taking up the cause afresh in the New Year. In the meantime, have a wonderful holiday season and a happy, healthy and prosperous new year.
Bill Kort
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