An historic moment for U.S. stock markets…
The Dow Jones Industrial Average surpassed 20,000 last week. Barron’s cautioned investors not to make too much of the milestone since, “There are only 30 stocks in the index so each one carries a lot of weight.”
Regardless of the significance of the Dow’s move, U.S. stock markets generally were upbeat about President Trump’s first week in office. Financial Times reported ‘animal spirits’ – a term British economist John Maynard Keynes used to describe the emotions that drive consumer and investor confidence – returned as rapid executive action indicated the new President would follow through on campaign promises, including infrastructure spending.
“However, the Trump trade – reflecting hopes of tax cuts, higher infrastructure spending, and an easing in business regulation – that had dominated financial markets since November also underwent a subtle shift this week. While financial shares still shone, it was sectors that will benefit from infrastructure spending and cope with higher inflation that led the way. Up 3.4 percent, the materials sector was the best performer on the S&P 500 with miners also seeing gains.”
Concerns about trade protectionism and rising inflation lingered.
U.S. stocks upward move was also supported by earnings growth. At the end of each quarter, companies report their earnings (which indicate how much profit they made during the period). FactSet reported 34 percent of companies in the Standard & Poor’s 500 Index have reported fourth quarter earnings, so far. Altogether, earnings are 2.7 percent above the estimates, although they remain below the five-year average.
Markets could be in for a bumpy ride next week as investors weigh in on President Trump’s immigration ban. Bloomberg reported one large technology company, “…inserted language in a securities filing on Thursday on the issue, cautioning investors that immigration restrictions ‘may inhibit our ability to adequately staff our research and development efforts.’”
Markets weren’t quite sure which direction to move last week.
The Trump rally, which lost some steam, gained momentum early in the week. The Standard & Poor’s 500 Index finished January 19, the day before the inauguration, with its biggest election-to-inauguration gain since Bill Clinton won a second term in 1996, according to MarketWatch, and the Dow Jones Industrial Average remained within striking distance of 20,000, according to Yahoo!Finance.
On Friday, President Trump delivered his inauguration address, but it didn’t resolve the uncertainty that has been nagging investors. The speech mentioned infrastructure activity, brushed over stimulus spending and tax cuts, and leaned heavily into protectionism. Mr. Trump said:
“America will start winning again, winning like never before. We will bring back our jobs. We will bring back our borders. We will bring back our wealth. And we will bring back our dreams. We will build new roads, and highways, and bridges, and airports, and tunnels, and railways all across our wonderful nation. We will get our people off of welfare and back to work – rebuilding our country with American hands and American labor. We will follow two simple rules; buy American and hire American.”
The market response to Friday’s speech was subdued, according to Financial Times:
“…with U.S. stocks edging higher, Treasuries putting in mixed performances and the dollar easing back against its main rivals. Oil prices rose sharply amid hopes that producers would show compliance to a global deal to cut output. Gold initially struggled for traction but held above the $1,200 an ounce mark.”
All major U.S. stock markets finished the week slightly lower, and 10-year Treasury yields finished the week slightly higher.
Around the world in a few paragraphs…
The post-election adrenaline rush may be over in the United States. Barron’s reported:
“The new year began with high hopes, with the bulls expecting the rally that began with Donald J. Trump’s election victory to continue into 2017, while the bears salivated at the opportunity presented by a market that had gotten way ahead of itself. Instead, the market has failed to break up or down…At his press conference last week, Trump covered a lot of ground…But he didn’t cover the three subjects investors especially wanted to hear about – namely taxes, fiscal policy, and infrastructure. As a result, some of the primary beneficiaries of the Trump trade stalled: The S&P 500 Financials index declined 0.1 percent, while the energy sector dropped 1.9 percent.”
Investors in the Asia Pacific region were less optimistic last week, too. Disappointing economic and international trade data from China unsettled markets, as did uncertainty about the global trade policies the new U.S. administration will pursue. National indices for Australia, Japan, China, Indonesia, Malaysia, and the Philippines finished the week lower.
In the United Kingdom, the FTSE 100 gained for the 14th consecutive day, closing at an all-time high for the 12th time in as many days, according to Trading Economics. Bloomberg reported European shares eked out a gain for the third straight week. Financials led the way after a large industry firm reported better-than-expected profits, inciting optimism about fourth quarter’s earnings season.
…And, they’re off!
Bullish sentiment helped world equity markets get off to a fast start last week. Just name a country or region – developed markets, emerging markets, the United States, Latin America, Asia, Europe, the United Kingdom – and it’s likely the area’s benchmark index may have been up for the week.
Not everyone was in the bullish camp, though. Barron’s reported:
“The market optimism is understandable. After a long spell of zero interest rates, a baton transfer from monetary manipulation to fiscal stimulus and pro-growth chutzpah can be an exciting regime change…But investors’ hopes could be misplaced. It would be one thing if there were shovel-ready infrastructure projects or proposed tax cuts on the table that could quickly boost spending. Instead, Republicans propose, for example, changing the basis for corporate tax from location of operations to location of sales. The aim is to encourage domestic production and exports, but the plan could hurt companies that import materials or goods. Will big importers like [big box stores] pass the tax hit onto consumers by raising prices?”
For contrarians, record highs for U.S. stock markets (both the Standard & Poor’s 500 Index and NASDAQ closed at new highs last week) and strong bullish sentiment (Barron’s reported, “The Investors Intelligence survey of newsletter writers showed the bullish herd swelling above 60 percent...”) are red flags, signaling an inflection point may be near.
No matter which camp you fall into, there is a lot of uncertainty. Which policies will the new administration pursue? Will China’s growth slow more quickly than expected? How quickly will the Federal Reserve raise rates? Will interest rates continue to move higher? Will a stronger dollar negatively affect emerging markets? In the face of so much uncertainty, it’s important to be diversified.
What a difference a year makes! At the start of 2016, investors were rather pessimistic and risk averse, preferring bonds to stocks. By the end of the year, they were quite optimistic and preferred stocks to bonds. In between, markets traveled a bumpy road.
During January of last year, few investors imagined we would be where we are today. Markets started 2016 in a tailspin with investors worried about slower growth in China, U.S. economic strength, oil price declines, and the possibility of a global recession.
During the first 10 trading days of 2016, U.S. stock markets got off to their worst start for any year on record, reported Financial Times. The Standard & Poor’s 500 (S&P 500) Index lost about $1.4 trillion in value and every major sector in the index was in the red, except for utilities.
The sharp drop stunned investors, and many shifted assets from global stocks into bonds. In late January 2016, CNN Money reported:
“Investors yanked $2.9 billion from U.S. stocks last week, marking the seventh week of outflows out of the past eight, according to Bank of America Merrill Lynch. Emerging markets, which have been in turmoil for months, experienced a 13th straight week of outflows of $1.2 billion. Money is fleeing to safe haven government bonds.”**
Investor sentiment was near its all-time low. On January 14, 2016, just 17.9 percent of participants in the American Association of Individual Investors (AAII) Investor Sentiment Survey said they were bullish. The all-time low is 12 percent and the long-term average for bullishness is 38.39 percent. Clearly, investors were not feeling optimistic about stock markets.
A specialist cited by Time.com discussed market performance and investor sentiment in the context of the AAII Survey:
“Historically…the S&P 500 has advanced 7.7 percent in the six months after reaching this level of bearishness. By contrast, stocks have historically gained only 2.7 percent in the six months following the most bullish readings among individual investors.”
As it turned out, the S&P 500 Index may have pushed the historic average higher during 2016. Barron’s reported the Index finished the year up 9.5 percent and returned 12 percent when dividends were included.
Investors didn’t enjoy a smooth ride last year, though. Late in June, the United Kingdom shocked the world when it voted to leave the European Union. Financial Times reported global markets lost $3 trillion during two days of brutal trading, including “…a nearly $1tn loss for the S&P 500, or the third worst two-day drop ever in value terms.”
Markets recovered relatively quickly after the Brexit drop. However, it looked like another rout was in the works in November as the U.S. presidential election votes rolled in. The initial reaction of global markets to Donald Trump’s election was panic; however, optimism soon prevailed and U.S. markets rallied on hopes the President-elect’s yet-to-be defined policies would bolster growth and positively affect the global economy.
The expectation of stronger growth, along with an anticipated December rate hike by the Federal Reserve, pushed bond yields higher and investors moved assets out of bonds and into stocks. Barron’s reported:
“The 30-year bond climbed 0.3 percentage point to 2.94 percent, resulting in a 6.3 percent decline in price. (Bond prices move inversely to yields.)…It wasn’t just Treasuries. Municipal bonds, corporate bonds, and preferred securities all fell. Bloomberg estimates $1 trillion in the value of bonds evaporated last week after the election.”
At the end of 2016, investor sentiment had risen well above the long-term average. More than 45.5 percent of participants in the AAII Investor Sentiment Survey were feeling bullish. Investors weren’t the only ones feeling optimistic. The Investors Intelligence survey of investment advisors found the bulls (59.8) outnumbered the bears (19.6) quite significantly in late December. The Bull/Bear Ratio was at 3.05, according to Yardeni Research.
The ratio is considered by many to be a contrarian indicator. When the Bull/Bear Ratio is at 1.0 or lower, and when it is at 3.0 or higher, we may be near a turning point for stock markets, according to Investing Answers and The New York Times.