We maintain our cautious tactical view of European equities amid lackluster economic growth and political uncertainty. Euro-area gross domestic product (GDP) rose just 0.2% during the fourth quarter, or 1.2% year over year, with Italy falling into recession and Germany, amid auto sector weakness, coming very close. Though in line with economists’ consensus expectations, tepid GDP growth to end 2018 and soft January data suggests the European Central Bank’s GDP growth forecast for 2019 of 1.7% is a reach.
China’s manufacturing sector shrank in January for the second straight month. The official China Purchasing Managers’ Index (PMI) came in at 49.5, a slight tick up from December’s 49.4 and marginally better than Bloomberg’s consensus (49.3). The better news came from the services sector, where the 54.7 reading for January is solidly expansionary and nearly one full point above consensus forecasts and December’s reading. Low valuations and still-favorable prospects for a U.S.-China trade agreement support our positive tactical view of emerging market equities, with the potential for Fed-induced U.S. dollar weakness adding to the bull case.
Slow start to earnings season. Earnings growth for the S&P 500 Index is tracking to 14.5% a little over one percentage point below expectations as of January 1. The shortfall is disappointing but only about 35% of results are in and the shortfall will likely be eliminated when all results are in. Estimates for 2019 have fallen by 2% so far, in line with historical averages, and should end the season in the 5% range, which we believe is achievable. Some things have to go right to hit that target, including a U.S.-China trade deal, stable growth overseas, and more political clarity globally.
Fed’s patience and flexibility. The Federal Reserve (Fed) announced yesterday that it would keep interest rates unchanged, pointing to global headwinds as a reason for pause, even with the backdrop of a solid U.S. economy. Policymakers removed the “some further gradual (rate) increases” language in the statement, and added a reference to being “patient” for greater clarity when determining future rate adjustments. Financial markets cheered the Fed’s message of patience and flexibility: the S&P 500 rose 1.7%, its biggest gain on a Fed day since December 2014. We thought the Fed would err on the side of caution in yesterday’s decision, and going forward, we expect policymakers to further exercise flexibility in rates and balance sheet changes as they juggle solid U.S. fundamentals against slower global growth.
Now what? After the worst December for stocks in 87 years that contributed to the worst fourth quarter since the 2008-09 financial crisis, stocks have bounced back in spectacular fashion. But can the S&P 500 add 10% to the 10% we’ve seen since the Christmas Eve lows? Available now on the LPL Research blog, we outline some catalysts to watch and provide some historical perspective.
- Employment Cost Index (QoQ, Q4 2018)
- Personal Income (MoM, Dec)
- Personal Spending (MoM, Dec)
- Core PCE (YoY, Dec)
- Eurozone GDP Report (Q4 2018)
- Japan Jobless Rate (Dec)
- Nikkei Japan Manufacturing PMI (Jan)
- Nonfarm Payrolls Report (Jan)
- Markit US Manufacturing PMI (Jan)
- ISM Manufacturing PMI (Jan)
- Markit Eurozone Manufacturing PMI (Jan)
- Eurozone CPI Report (Jan)
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