Financial Review

Uncertainty

…Stocks finished mixed – up for the week – down for the month and year. A look at 2018 market movers.

Financial Review by Sinclair Noe for 12-28-2018

DOW – 76 = 23,062
SPX – 3 = 2485
NAS + 5 = 6584
RUT + 6 = 1337
10 Y – .01 = 2.73%
OIL + .47 = 45.08
GOLD + 5.10 = 1281.20

 

Up, down, up, down, up down – slightly negative at the end of trade. Today could have gone in any direction. There was a serious lack of commitment in trading today and stocks limped across the finish line.

 

Since the Christmas Eve nightmare, we have seen a nice bounce back for the major indices but a series of sharp sell-offs have left stocks on track for their worst December since the Great Depression. That would be the case if the S&P 500 closes below 2,594 on Monday. It finished at 2,485 today – so it looks like the worst December in 87 years.

 

The S&P 500 Index posted the biggest upward reversal in eight years during Thursday’s session, rallying back from a 2.8 percent deficit. One theory is that the about-face could reflect end-of-quarter adjustments by pension funds that have $60 billion of shares to buy this month. Institutional investors with large holdings in stocks and bonds use the end-of-quarter period to balance out holdings, adding to losers and cutting on winners. This time, they went big on U.S. large and small caps, adding $35 billion and $21 billion to indexes that are set to post the worst month since 2009. Money got pulled from fixed income that’s outperformed stocks. The S&P 500 fell as much as 2.8 percent on Thursday before erasing its loss to rise 0.9 percent at the close. Since 1984, there was only one other session, in 2008, when the S&P was down more than 2 percent 1.5 hours before the close and finished the day 0.5 percent higher.

 

Also, we talked yesterday that the rally had the tell-tale signs of intervention by the Plunge Protection Team, officially known as the Working Group on Financial Markets. Treasury secretary Steve Mnuchin – part of the plunge protection team – made calls earlier in the week to the major bank CEOs. Mnuchin’s ham fisted response only spooked markets. Yesterday, Trump made calls to various CEOs to try to prop up the markets. It worked. At least for a while.

 

But it was still a dreadful December. The S&P 500 was just 0.02% shy of officially entering a bear market (an amount so negligible many simply called it for the bears — though lines do have to be drawn somewhere). For the week, the Dow rose 2.8%, while the S&P 500 climbed 2.9% and the Nasdaq registered a weekly gain of 4%.  All three indexes marked their first weekly gains after three straight weekly declines. MSCI’s index of global equities gained 2% on the week.

 

Republican leaders gave up hope on Thursday of reopening the government before the new year, leaving the border wall impasse to House Democrats as they assume the majority next week — and presenting Representative Nancy Pelosi with her first major challenge as speaker. House Democrats, who take control on Wednesday, are weighing three approaches to getting funds flowing, none of which would include additional money for Trump’s proposed wall. The shutdown has affected about a quarter of the government, left 800,000 federal workers furloughed or working without pay, and has entered its seventh day. House Democratic leaders plan to pass a stopgap measure to fund the government into February, another stopgap measure that would fund it through September, or the bipartisan, yearlong spending bills for everything but the Department of Homeland Security. That department, which handles the border, would be funded by a separate stopgap measure that maintains current financing levels and policies. A vote on any of the bills would probably take place next Thursday after the new class of legislators takes office.

 

This year was great for deal making. Until it wasn’t. Companies announced a record $2.3 trillion in acquisitions through the first six months of the year, according to data from Refinitiv. That was fueled by three main factors:

A stronger economy. After almost a decade of lackluster growth globally, the American economy appeared to be at its strongest in years and business confidence was high. A windfall from the tax overhaul and continued low interest rates meant that coffers were full and debt was cheap.

 

Uncertainty can bring an end to deal making. By the second half of the year, there was plenty of uncertainty. Plunging markets, an escalating trade war between the U.S. and China, signs that the global economy is slowing and the pace of the Federal Reserve’s rate increases all raised questions about the health of the world’s economy.

 

That weighed on corporate minds. By the second half of the year, executives had become more cautious and deal activity slowed. Just $1.6 trillion worth of deals were struck worldwide from July 1 to Dec. 21. Acquirers announced 123 transactions valued at more than $5 billion in 2018, worth a total of $1.5 trillion — a 70 percent increase from 2017 and the second-highest level on record. Again, most of the deals were in the first half of the year.

 

If history is any indicator, peaks in deal making are not necessarily a cause for celebration: There was record M.&A. activity in 1989, 2000 and 2007, and each peak was followed within months by a recession. China dominated U.S. public offerings this year. The three largest I.P.O.s by market value were all Chinese companies. And China accounted for four of the 10 largest I.P.O.s on American exchanges this year, the most of any country including the U.S.

 

Investors piled into the biggest tech companies, pushing the market values of Amazon and Apple above $1 trillion. But soon investors were dumping tech shares, sending the Nasdaq into a bear market for the first time since the financial crisis. Companies handed back more than a $1 trillion to investors through buybacks and dividends. But markets were also whipsawed by fears of slowing global economic growth, rising interest rates and trade wars.

 

As 2018 comes to a close, the longest bull market in history is having its worst year since it started nearly a decade ago. Almost every major type of investment has fared poorly: Stock markets in America, Europe and Asia are all suffering from double-digit percentage losses, while commodities and bonds have tumbled. The lift provided by the tax cuts has faded. The U.S.-China trade war has taken a toll on global growth. The Fed has staked out a more aggressive path to raise rates than many investors had hoped, which means the costs of borrowing are rising. And oil prices have plunged. Things look bleak. Still most analysts think 2019 will be a good, or at least decent, year. Most analysts estimate that the S&P 500, which currently lies at about 2,500, could reach 2,750 to 3,300 by the end of 2019.

 

There is also widespread concern that we are getting closer to a slowdown, and the markets are anticipatory, giving us an early warning that the slowdown is right around the corner. The global economy looks set for a slowdown. Fifty-three percent of fund managers surveyed by Bank of America Merrill Lynch expected global growth to weaken over the next 12 months. That’s the worst outlook on the global economy since October 2008. And we have to include the uncertainty coming out of the executive branch. We have all followed news of investigations into the White House. I do not know whether the special counsel’s report will condemn or exonerate Trump. Time will tell. I do anticipate turmoil, and that will create uncertainty, and as we know, uncertainty can lead to market volatility.

 

Other risk factors for 2019 include the Fed. The Fed could tighten monetary policy too far. In 2018, concerns about the central bank bringing an end to the bull market with rate increases prompted two sell-offs. Fund managers continue to rank the Fed’s tightening among the biggest risks to the market.

 

Peak earnings are probably behind us. Analysts expect S&P 500 companies to report average earnings growth of 8.3 percent and revenue growth of 5.5 percent in 2019, according to FactSet. By comparison, S&P 500 earnings are forecast to grow 20.5 percent this year and revenue 8.9 percent.

 

The big question: Is a recession looming? After ignoring trade wars, rising interest rates and a slowing global economy for months, investors finally got spooked, threatening the longest bull run on record. But markets don’t generally crash simply because a recovery has been going on for a while.

Inversion of the yield curve is another. Essentially the difference between interest rates on short- and long-term government bonds, the curve is seen as a predictor of recession. The spread between three- and five-year yields briefly went negative at the start of December. But economists view the two- to 10-year spread as a better signifier of impending recession, and even then, only when it is inverted for a sustained period. So far, that hasn’t happened. If we are headed for a recession, we are not there yet, and it is very difficult to time. Look to the nonfarm payroll reports from the BLS as a guide for any possible economic slowdown. If monthly job gains turn negative – run, don’t walk.

 

If you can keep your head when all about you. Are losing theirs…

 

 

 

Just a final note as we wrap up the year, Next week I will be leaving my position as host of the Financial Review after 27 years. We will no longer present a daily show Monday thru Friday – instead I will be offering up a weekend version of the Review and I invite you to tune in Sunday morning at 10AM. As always, you can follow along at eat the bankers .com, our blog site. So, I’ll still be around, just with a lighter workload. My thanks to all of you for your dedicated listenership over the years. Best wishes for a healthy and prosperous new year.

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