To Nvidia and Beyond

The Wall Street mantra of 'beat and raise' is like a carrot on a stick causing investors to keep buying until the earnings narrative changes. In earnings-led Bull markets like this one, valuation expansion is normal in a 'chasing' environment. Value concerns take a back seat to the 'surprise' factor of earnings reports that energize investors. This reporting cycle has been a particularly good example. The looming NVDA earnings report tomorrow is the litmus test of this.

Now that NVDA has transitioned from a cyclical chip supplier to a darling growth stock, the bar is higher than ever. With its dominant position and killer app status, it has been the star performer of the technology bull market cycle that started forming early last year. It has overtaken AMZN, META, and GOOGL in size and trails only AAPL and MSFT.

After the run it's had, it had better be a good report. Talk about a nose-bleed chart.

Nivdia

But Nvidia is only one of several companies that have reported surprisingly good earnings lately. That stems from the fact that the prevailing narrative has shifted abruptly from a 'hard landing' to a 'no landing' after the Fed's comforting verbal pivot late last year and continued positive GDP growth.

But as important, it's the composition of the earnings that matters. If there was ever a stock market that demonstrates the fact the market is not the economy, it's this one. The real economy has a skew towards real property, goods production, and consumer spending. The market is skewed to disruptive technology-based transformational companies with less sensitivity to higher rates and immunity to labour scarcity. This is an 'intellectual property' market, globally unique to the U.S.

The lagging sectors, with lower market weightings, are dominated by 'old economy' stocks like finance materials and small-cap businesses. I contend that there is too much money chasing too few stocks. But those are great stocks. And with the shock and awe rate hikes of the last two years, although there are far more weak companies in the market, they don't have enough weighting in the S&P500 to offset the dominant tech plays.

Another way to express the old vs new is the relative performance of Walmart versus Amazon. It is obvious who is winning the race to capture the consumer's wallet. Today, Walmart has announced an acquisition of Vizio to integrate backward, driving market share and capturing the ROKU advertising channel. But it doesn't completely address the issue of their e-commerce offering that lags Amazon's dominance.

Walmart vs Amazon Relative Peformance

Markets are waffling in the days leading up to tomorrow's key earnings report. Meanwhile, the 'inflation is sticky' narrative I flagged last week was reinforced by the PPI and University of Michigan consumer sentiment data. That begins to wear on the bulls, as the hoped-for 2% inflation target looks specious. The bond market is threatening to rain on the Tech parade. If the next employment report surprises to the high side, look for a quick shock to the senses from our friends in the fixed income space. Those who have been buying duration and riskier assets based on a multi-rate-cut tailwind scenario will suddenly curb their enthusiasm. This chart looks higher.

U.S. 10 Yr Yield

Investors have been happily buying stocks with earnings growth despite their steadily rising valuations. They are ignorant of the growing risk from a rate back-up from the long end of the bond market. There is a small but growing chance that the Fed actually hikes rates at some point this year, should inflation bottom out above 3% as I predict. With a normal real rate of 2% and an inflation premium of 3%, bond yields could even test their highs near 5%. While the NVDA earnings are important, I think the 10-year is more so.

Instead of chasing a carrot, they may find they have been chasing their tails.

Risk Model: 5/5 - Risk On

With low but rising volatility, positive but weakening bullishness, and a choppy but improved Copper/Gold ratio there is notionally a positive reading this week. That unanimity could reverse on any 'bad news' as the indicators are close to their signal lines now, especially AAII Bull/Bear and $VXV. A 'miss' by NVDA would do the trick. We shall see.

AAII Sentiment - Bull/Bear Ratio

3-Month Volatility Index