Market Strategy Radar Screen Weekly August 20, 2018

Been There, Done That, Got the T-Shirt

US equity markets grind higher on fundamentals

In the week ahead, investors will have plenty to focus on even as a sense of the traditional wistful end of summer begins to make its presence felt across Wall Street and Main Street stateside and across the northern hemisphere as the days start getting shorter.

Midweek, the Federal Reserve releases minutes from its August FOMC meeting. Investors will follow their usual regimen of parsing the minutes for any change in tone by the Fed that could suggest a policy tweak or hint at a material change ahead.

Leading into this week, we aren’t expecting any big surprises from the minutes. The central bank, in our opinion, is more than likely to reiterate its commitment to interest rate normalization—which in our view implies a continuation of a policy sensitive to both strengths and vulnerabilities in the economy.

What we’ll be looking for is any clue as to whether or not the Fed plans on two more rate hikes or not in 2018. Stateside economic data and market expectations point to a total of four hikes in 2018 (with two more to come—one in September and one in December). However, the trade skirmish and uncertainty around the possible repercussions surrounding the crisis in Turkey could push the Fed to go with just one more rate hike this year.

Also on the investment calendar this week is the annual Jackson Hole Economic Symposium sponsored by the Federal Reserve Bank of Kansas City which convenes mid-week. For over 30 years, the gathering in Jackson Hole each August has drawn a diverse group of central bankers, business leaders, academics, denizens of the financial world, and select members of the press from across the US and around the world.

This year’s economic symposium is titled “Changing Market Structure and Implications for Monetary Policy” and takes place August 23rd to August 25th .

Investors can expect a wide variety of topics to be discussed including issues surrounding those tied to the ongoing trade war/skirmish and negotiation process.

In the Rear- View Mirror

Last week, US equity markets continued to show resilience in the face of global challenges from trade tensions and the currency crisis in Turkey.

The Dow Jones Industrials, S&P 500, the S&P 400 (mid-caps), and the Russell 2000 (small caps) respectively gained 1.4%, 0.6%, 0.7% and 0.4% on the week. The NASDAQ Composite (some 40% weighted in tech and tech related stocks) slipped 0.3%.

Last week’s activity in the stateside markets broadly favored defensive sectors over cyclical sectors with market action showing some profit-taking in growth issues and rotation into some value segments in stocks.

The major international and regional benchmarks showed weakness in the same period. In our view, this signals a continued concern for the potential greater negative impact that the trade skirmish or a protracted trade war on foreign could have on foreign economies and markets. This would particularly damage those trading partners whose revenues and earnings historically have greater dependence on exporting to the US.

In the week ended last Friday, MSCI EAFE (Developed markets ex-the US and Canada), MSCI Emerging markets, and MSCI Frontier markets respectively declined 1.2%, 3.7% and 1.4%.

How About Those Bonds?

The yield on the 10-year note closed the week at 2.86% on Friday (some distance from the 3.11% high so far for this year seen in mid-May).

The softer yield on the benchmark note seen last Friday reflected some “risk off” sentiment in the markets as well as the continued comparative attractiveness of the note’s yield for foreign investors that is further enhanced by the dollar’s strength.

So far, stateside equity markets have exhibited a “been there, done that, got the T-shirt” resilience in the face of challenges that have been offset by economic data in the US that points to the sustainability of domestic economic growth as well as solid revenue and earnings growth at the corporate level. As of last week, with around 93% of S&P 500 companies having reported in Q2 earnings season, earnings are up in excess of 25%. This performance comes on back of revenue growth just under 10% (for details, see p. 4).

With fundamentals not showing deterioration, the economy and the equity markets may have further space and time to surprise skeptics and bears in the quarters through the end of the year.

Should some resolution to the global trade dispute appear on the scene, international equity markets could reverse direction and move higher and follow the US stock market higher as well.

For now, we remain overweight the US but with sufficient exposure to the international markets should trade conditions and sentiment towards them improve.

The trade-weighted US dollar index (DXY*) has risen 6.8% against a basket of six developed-nation currencies since the end of March 2018.

While the dollar’s renewed strength is a relatively recent phenomenon, the dollar index remains 5.4% below its level at the end of 2016.

Should the dollar extend its gains, the strong currency could become a headwind for the revenues and earnings of US multinational companies in future quarters.

For the complete report, please contact your Oppenheimer Financial Advisor.

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