Markets breakout to record highs on improving fundamentals
NOV. 04, 2019
Equity markets finally broke out of the trading range that has existed for nearly two years, driven by shifting sentiment on earnings. The S&P 500 Index has seen several efforts to break to the upside fail, as they were driven by hopes for a trade deal of Fed stimulus. This breakout is fundamentally-based, and therefore more likely to be sustainable. With a 24% return to date, the S&P 500 is on pace for the best year since 2013 (+32%), and the fourth-best since 1999.
Third-quarter earnings are expected to decline for the first time in three weeks, though the tone of management calls and the reaction of investors has been encouraging. With nearly three-quarters of the S&P 500 having reported, 76% have beaten earnings expectations and 61% have topped sales estimates. Estimates for the fourth quarter have trended lower and are now expected to be flat versus a year ago before a rebound in 2020. A similar period of four-straight declines occurred in 2015-2016. Companies that beat estimates are seeing a better-than-average stock price reaction, while misses are seeing a smaller-than-average decline, suggesting expectations were modest coming into the quarter.
The House voted along party lines to officially open an impeachment inquiry into President Trump last week, though markets showed little impact. The lack of Republican support shows that the Democrats are nowhere near the 67 Senate votes necessary to remove him from office. Polling data in swing states shows that respondents support an inquiry, but not removal. There is little historical precedence to gauge the market reaction to such an inquiry, as markets were weak during Nixon’s and strong during Clintons; more a reflection of the general macro environment than in reaction to the news. Investors are becoming increasingly numb to political noise, and this inquiry is unlikely to roil markets.
Third-quarter GDP came in at a better-than-expected rate of 1.9%, though it was lower than the first quarter (3.1%) and second quarter (2.0%). As expected, consumer spending and housing were the drivers, while capital spending was a drag. There is uncertainty on fourth-quarter growth, with economist consensus at 1.8%, while the Atlanta Fed’s GDPNow estimate at 1.1%. The jobs report was encouraging, with a healthy beat in October, and substantial positive revisions to previous months. The strong jobs market and the incremental signs of a “green shoots” overseas sets the stage for a potential global economic stabilization and rebound.
While the APEC summit where Presidents Trump and Xi were expected to sign “phase one” of the trade deal was cancelled, both sides seem on track to sign a deal this month. Details are emerging on agricultural purchases and tariff concessions, along with agreements on currency and deals with Huawei.
The FOMC cut the Fed Funds rate for the third time this year to 1.50-1.75% but signaled a pause to access the impact before cutting again. Fed Chairman Jerome Powell said policy would remain steady as long as “incoming information about the economy was broadly consistent” with the Fed’s forecast of moderate economic growth, a strong labor market and inflation near the 2% target. The Fed Futures curve shows only a 9% chance of a December cut, but a near-50% chance by next April.
What to Watch
The slate of economic data next week includes durable goods on Monday, ISM non-manufacturing on Tuesday, consumer credit on Thursday and consumer sentiment on Friday.
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