Market Update: Monday, August 14, 2017

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Last Week’s Market Activity

  • Rough week. It was a tough week for stocks; S&P 500 Index -1.4% as geopolitical worries heated up. Second largest weekly drop year to date, behind a week in March. Small caps underperformed, Russell 2000 -2.7%, marks worst week for small caps since 4.8% drop in early 2016.
  • It can be argued that stocks were due, as S&P 500 hasn’t fallen more than 5.0% in over 18 months. Weak retail earnings, escalated rhetoric regarding North Korea magnified Thursday’s sell-off.
  • VIX surged ~50%, potentially triggering quantitative selling.
  • 10-year Treasury yield moved lower to 2.19% on Friday following weaker-than-forecast inflation data. Fed funds futures suggest reduced expectations for further interest rate hikes by year-end.
  • U.S. dollar fell, COMEX gold rose to $1295/oz.
  • Weakness not limited to U.S. MSCI All Country World Index -1.5% on the week as sell-offs occurred in Europe (STOXX Europe 600 -2.7%), Asia (MSCI Asia-Pacific Index -1.2%).

Overnight & This Morning

  • Asian stocks mixed overnight. Hang Seng (+1.4%), Shanghai Composite (+0.9%), Nikkei (-1.0%), but Japan was closed Friday, so Monday decline likely a “catch up” trade. Yen slipped vs. dollar to 109.
  • Japanese GDP up a surprising 4% annualized, much better than 2.5% growth predicted and 1.6% growth experienced over past seven years. Consumer spending a major contributor, at its highest rate in three years.
  • Economic data in China disappointed as reports on industrial output (+7.2%), retail sales (+10.4%), fixed asset investment (+8.3%) all came in below expectations.
  • Stocks in Europe rose, banks led gains; STOXX 600 +0.8%.
  • European-wide industrial production declined 0.6%, below -0.5% estimate. Overall, generally upbeat earnings season winding down, geopolitics, European Central Bank meeting on September 7, German elections largely market drivers over next few weeks.
  • German bund yields rose to 0.41% as geopolitical tensions eased. Euro fell slightly, hovering near $1.18.
  • Commodities – Most commodities dragged lower by losses in agriculture, materials, precious metals. WTI crude oil -0.6% to $48.51/bbl., gold -0.5% to $1282/oz.
  • Domestic indexes higher as comments from CIA Director Mike Pompeo and National Security Advisor H.R. McMaster said nuclear war not imminent. No indication war with North Korea will break out as President Trump, China’s Jinping reiterated joint commitment to denuclearization of the peninsula.
  • Treasuries lower, 10-year yield back up to 2.23%.

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Key Insights

  • Despite the market’s volatility, data related to economic activity remains largely supportive of slow and steady growth. Inflationary pressures remain elusive, which is surprising considering the Federal Reserve (Fed) expanded its balance sheet by a factor of five. Globalization, aging demographics, technological innovation, slow wage growth, and less than desired productivity gains have all combined to dim pricing measures, especially on the services side.Productivity also continues to lag the average annual pace of +2.1% since WWII. Weakness in output-per-hour-worked has weighed on economic growth and living standards, and if it persists, will have a critical effect on the future trajectory of wages, prices, gross domestic product (GDP), tax receipts, and federal budget balances.

    This suggests a lack of urgency for the Fed to elevate overnight borrowing costs from current levels, and illustrates why it’s critical for the “shift” that we discussed in the Midyear Outlook to occur, from monetarily led policies to fiscally led policies. Government can help boost productivity growth by overhauling business taxes, rolling back regulations, and supporting research and development. These steps could help increase business investment and the knowledge that helps propel growth.

Macro Notes

  • Impressive earnings season. In today’s Weekly Market Commentary, we recap the near-complete second quarter earnings season. With just 45 S&P 500 companies left to report results, the S&P 500 has produced a solid 4% upside to June 30 earnings estimates (+12% vs. prior +8% year over year) on impressive beat rates on earnings (74%) and revenue (68.5%), and strong contributions across several key sectors. Revenue growth is tracking to a 5.1% year-over-year increase, an impressive 0.5% above the prior estimate. Forward earnings estimates have edged 0.6% lower since earnings season began, less than the historical average of 2.5%. This week just 20 S&P 500 companies will report as the season draws to a close.

  • Consumer spending represents about 70% of U.S. GDP. Intuitively, we know consumer spending has had a weak recovery since the end of the Great Recession. But how weak has it been? In this week’s Weekly Economic Commentary we look at how poor the pickup in spending has been; poor, but better than the first five years of the recovery and now on a more normal trend. We also look to see where consumers have been spending. While the idea that they are spending on “experiences” has some validity, we see strong spending growth in more traditional areas like cars and household goods.

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Click Here for our detailed Weekly Economic Calendar

Monday

Tuesday

Wednesday

Thursday

  • Philadelphia Fed Mfg. Report (Aug)
  • Industrial Production (Jul)
  • Capacity Utilization (Jul)
  • LEI (Jul)
  • UK: Retail Sales (Jul)
  • Eurozone: CPI (Jul)
  • ECB: Account of the Monetary Policy Meeting

Friday

 

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