Everyday, Everyday I Have the Blues
By John Stoltzfus,
Chief Investment Strategist
Be Careful What You Wish For
Stocks rallied further last week on prospects of tax reform, economic data and earnings results
Three of the major US equity indices posted their latest record highs last Friday after the October non-farm payroll number, the headline unemployment number and the ISM nonmanufacturing index signaled that the US economy continues to grow at a sustainable if moderate pace.
Other data that serves to gauge growth in the US released last week including reports pertaining to housing, wage growth, and inflation along with the conclusion of the Fed’s FOMC meeting mid-week (as rates remained on hold this month with the rising likelihood of an increase next month), underpinned a positive week for major equity market indices. At the same time, individual stock names evidenced that dispersion remains very much in vogue as some stocks took drubbings on disappointing earnings results and guidance while others were generously rewarded for positively surprising with investors bidding them higher as third-quarter earnings season moved ahead.
With some 407 of the 500 companies in the S&P 500 having reported thus far in the current earnings season, revenue (sales) and earnings (profits) are up 5.61% and 7.17% respectively, besting consensus analyst expectations at the start of the season.
So far energy, information technology, materials and real estate have delivered the best earnings results; while financials and utilities were the greatest laggards among the 11 sectors of the S&P 500 (see page 5 of this report for details on 3Q earnings season).
The major benchmarks reacted positively to announcements in Washington last week, which saw the President nominate Jerome Powell for the Chairmanship of the Fed and congressional Republicans deliver their proposal for tax reform.
“With earnings season moving into the home stretch, this week should provide some time for investors to ponder the details of the tax reform proposed and the jawboning and wrangling that lies ahead”
Changing horses in the middle of the stream
As strategists we were disappointed that President Trump failed to reappoint Fed Chair Janet Yellen to a second term.
While Powell is widely respected and considered to be a highly competent and capable successor to Yellen, we believe that the process of a leadership transition at the Fed and the likely amount of time it will take the markets to become familiar with a new Fed Chair raises the chance of an increase in volatility in the months ahead as the process of interest rate normalization and economic reflation cross paths.
Taxing Issues loom ahead
As to the tax reform package presented last week, it seems to us at early glance to offer plenty of opportunity to “see the fur fly” when denizens of the Beltway, the Hill and the White House ponder the details of the 429-page document that outlines the plan—and then pair off.
As market and investment strategists we think that what actually gets to “see the light of day” from the negotiations and wrangling about to begin over a host of potentially contentious issues (including elimination to varying degrees of deductions tied to corporate borrowing, mortgage interest as well as state and local tax deductions—to mention a few) will give investors and the markets more than a few things to ponder over the course of the next few weeks, if not months or even quarters.
While the administration speaks confidently of getting approval of its tax reform plans in quick fashion—perhaps as soon as Thanksgiving or at the latest before the Christmas holidays—the reality of what came to pass over the proposals over healthcare reform would appear to hang like dark clouds over the Washington political landscape. It seems like only yesterday that the topic du jour on Wall Street and in Washington was who would be the winners and who would be the losers with a border-added tax. What a difference a few months can make.
Whether it’s what happens to income earners in locales with state and local income taxes or corporate entities in sectors historically dependent on issuance of debt with deductible interest costs, or the seriously ill who can qualify to deduct health care expenses, or those who could be negatively impacted should they no longer be able to deduct interest tied to their mortgage the potential for politicians to have to deal with disparate constituencies already polarized, disenfranchised and disgruntled by the current state of affairs looks like a possibility in the mid-term election year ahead.
And then there was the thought that floated over the markets last week: “what if all the good economic and earnings news is signaling that additional stimulus driven by tax reform might be too late for this cycle and pose a risk for policy makers at the Fed if the economy grows fast enough to boost wage growth?”
With earnings season moving into the home stretch and last week’s key economic data behind us, this week should provide some time for investors to ponder the details of the tax reform proposed and the jawboning and wrangling that lies ahead.
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