U.S. equities finished mostly higher for the first full week of the year, with the S&P 500 gaining approximately 0.6%.1 There were no meaningful directional drivers behind the price action, which is a dynamic that has been prevalent so far in 2014.
Disappointing Jobs Report Does Not Disrupt Positive Outlook
Improving sentiment for the U.S. economic recovery remains largely intact, despite the disappointing December employment report. The December FOMC minutes failed to provide much additional insight into the potential pace of Federal Reserve (Fed) tapering. We expect the Fed will continue to taper its asset purchases by $10 billion at the next meeting. Fourth quarter earnings season is also a notable topic as a potential headwind for markets.
Weekly Top Themes
1. The December employment report was broadly weaker than expected, although some of the disappointment was due to bad weather.2 The unemployment rate declined largely, due to a drop in work force participation. Non-farm payroll employment grew only 74,000 versus the consensus 197,000, the weakest increase since 2011. The unemployment rate decreased to 6.7%, with 0.2% of the decline represented by the participation rate. Average hourly earnings increased less than expected, and the average work week also fell.
2. The Fed minutes show the decision to taper in December was driven by growing confidence that the U.S. is finally moving above trend on a
sustainable basis. This outweighs ongoing angst about weakness in inflation.
3. The U.S. energy story is one of our big themes for 2014 and the decade. The November trade deficit narrowed sharply, driven in particular by improvement in the energy trade balance, bringing the deficit to the lowest level since 2009.3
We expect 2014 to be a better year for the U.S. economy but a more subdued environment for the stock market. For the economy, there are greater tailwinds than headwinds, with growth being driven more by the private sector than monetary or fiscal policies. We have set a 3.0% growth rate target for the year for the first time since the Great Recession, and we believe this may even be too low. The U.S. economy is probably the most solid economy of the major developed and emerging economies. The reduction of fiscal drag in the United States, elimination of output contraction in Europe, stronger growth in China and recovering Japanese economy should lead to stronger global economic growth in 2014.
Last spring the financial markets began to be driven more by improving growth than a liquidity-driven environment, as well as modestly higher equity valuations and a slow unwinding of the great global monetary experiment. Led by the U.S., stocks have remained inexpensive relative to bonds, reflecting the sustained uptrend in U.S. Treasury yields and the rising expectation for corporate profits. However, it is hard to argue that investors have become overly bullish or fully invested in equities or other risk assets. Likewise, relative valuations are not signaling overbought conditions. Against this backdrop, the cyclical advance in risk assets will probably persist. As we highlight in our 2014 Ten Predictions, there will undoubtedly be counter-trends and pullbacks along the way. Global monetary and liquidity policies should remain favorable and serve as a key source of support despite the December start of Fed tapering. We anticipate real interest rates will drift up from very low levels, and central banks will have limited tolerance for any lasting downside in risk asset prices. The global equity market advance has further to run in our opinion, driven by rising corporate profits. It appears that returns will be more muted than in 2013, and volatility will likely be higher. Investor anxiety about profit margins seems to be misplaced if the economic recovery scenario we have outlined comes to fruition.
While equity funds continue to see strong inflows, developed and emerging market flows are widening in favor of developed markets.4 Strong global momentum, shown through manufacturing data from Purchasing Managers Index (PMI™) and other economies around the world, underpins our preference for cyclicals over defensives.5 We are focusing on how firms will spend their record high levels of cash as economic uncertainty decreases, and we forecast that dividend increases, share buy-backs, capex and M&A will increase at a double-digit rate this year.
1 Source: Morningstar Direct, as of 1/10/14. 2 Source: Bureau of Labor Statistics, “The Employment Situation – December 2013,” January 10, 2014, http://www.bls.gov/news.release/empsit.nr0.
htm. 3 Source: U.S. Department of Commerce, U.S. Census Bureau and U.S. Bureau of Economic Analysis, U.S. International Trade in Goods and Services, November 2013, January 7, 2014, http://www. bea.gov/newsreleases/international/trade/tradnewsrelease.htm. 4 Source: Investment Company Institute, “Estimated Long-Term Mutual Fund Flows,” January 8, 2014, http://www.ici.org/research/stats/ flows/flows_01_08_14. 5 Source: Institute for Supply Management, “December 2013 Manufacturing ISM Report on Business,®” January 2, 2014, http://www.ism.ws/ismreport/mfgrob.cfm; Business Insider, “Global PMI Day: 15 of 23 Nations Report Accelerated Manufacturing Gains,” January 2, 2014, http://www.businessinsider.com/global-pmi-day-2014-2014-1.
The S&P 500 Index is a capitalization-weighted index of 500 stocks designed to measure the performance of the broad domestic economy. Euro STOXX 50 Index is Europe’s leading Blue-chip index for the Eurozone and covers 50 stocks from 12 Eurozone countries. FTSE 100 Index is a capitalization-weighted index of the 100 most highly capitalized companies traded on the London Stock
Exchange. Deutsche Borse AG German Stock Index (DAX Index) is a total return index of 30 selected German blue chip stocks traded on the Frankfurt Stock Exchange. FTSE MIB Index is an index of the 40 most liquid and capitalized stocks listed on the Borsa Italiana. Nikkei 225 Index is a price-weighted average of 225 top-rated Japanese companies listed in the First Section of the Tokyo Stock Exchange. Hong Kong Hang Seng Index is a free-float capitalization-weighted index of selection of companies from the Stock Exchange of Hong Kong. Shanghai Stock Exchange Composite is a capitalization-weighted index that tracks the daily price performance of all A-shares and B-shares listed on the Shanghai Stock Exchange. The MSCI World Index ex-U.S. is a free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of developed markets minus the United States. The MSCI Emerging Markets Index is a free float-adjusted market capitalization index that is designed to measure equity market performance of emerging markets.
RISKS AND OTHER IMPORTANT CONSIDERATIONS
The views and opinions expressed are for informational and educational purposes only as of the date of writing and may change at any time based on market or other conditions and may not come to pass. This material is not intended to be relied upon as investment advice or recommendations, does not constitute a solicitation to buy or sell securities and should not be considered specific legal, investment or tax advice. The information provided does not take into account the specific objectives, financial situation, or particular needs of any specific person. All investments carry a certain degree of risk and there is no assurance that an investment will provide positive performance over any period of time. Equity investments are subject to market risk or the risk that stocks will decline in response to such factors as adverse company news or industry developments or a general economic decline. Debt or fixed income securities are subject to market risk, credit risk, interest rate risk, call risk, tax risk, political and economic risk, and income risk. As interest rates rise, bond prices fall. Non- investment-grade bonds involve heightened credit risk, liquidity risk, and potential for default. Foreign investing involves additional risks, including currency fluctuation, political and economic instability, lack of liquidity and differing legal and accounting standards. These risks are magnified in emerging markets. Past performance is no guarantee of future results.
Nuveen Asset Management, LLC is a registered investment adviser and an affiliate of Nuveen Investments, Inc.
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