Key Points
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▪ Equities recovered what they lost in the prior week as investors focused on the positives.
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▪ Global growth must improve for stock prices to experience a sustained increase.
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▪ Ultimately, we think that will happen, although the path will be a bumpy one.
U.S. equities climbed sharply last week, with the S&P 500 Index advancing 3.3%, essentially erasing losses from the prior week.1 Somewhat surprisingly, investors did not focus on the terrorist attacks in Paris, paying more attention to the positives. The October Federal Reserve minutes seemed to strike the right balance between raising expectations for a December rate liftoff and maintaining a measured pace. Merger and acquisition headlines were also in the news and there were some bright spots on the corporate earnings calendar. For the week, the consumer discretionary and technology sectors led the way while energy and utilities underperformed.1
Despite Some Worries, Consumer Spending Is Strong
Several prominent retailers posted disappointing third quarter earnings results, which have caused some observers to opine that consumer spending levels are weakening. We disagree. Spending levels remain strong in areas such as housing, autos, “experiences” and e-commerce, which may be diverting spending from traditional brick-and-mortar companies. The tailwinds for spending outweigh the headwinds, and include an improving labor market, wage gains, low core inflation, low energy prices, rising consumer net worth and rising real income expectations.2
Weekly Top Themes
1. Lower energy prices have historically led to periods of improved economic growth. As happened in such times as 1981 - 1982, 1986, 2008 and 2011, declining energy prices may help real gross domestic product growth, payrolls, capital expenditures, manufacturing and industrial production in 2016.2
2. Rising inflation may become an important story in 2016. In particular, we expect to see modest upward pressure on wages and core inflation.
3. Since the market low in August, equities have been doing relatively well, with cyclical sectors outperforming.1 We expect this trend will persist and expect global manufacturing levels to improve.
4. The Paris attacks could act as a drag to European growth. Specifically, trade, travel and consumption could take a hit. For the United States, the main effect would likely emerge as shifts in export and import levels due to a stronger dollar and a potentially weaker European economy.
Better Global Growth Should Eventually Help Risk Assets
Although volatility has increased over the last several months, fundamental conditions continue to be steady. The global economy remains uneven and somewhat weak as one or more major economies have suffered periodic setbacks at various points. As a result, investors have relied on easy monetary policy rather than on improving growth to power risk assets higher.
Markets now sit at a crossroads. Monetary policy should remain an important consideration, but for risk assets (including equities) to achieve a sustained uptrend, we believe better global economic growth will be needed. And we expect global conditions to gradually improve. China is stabilizing and policymakers are keenly attuned to promoting continued growth. The U.S. remains in decent shape, as the improving job market should drive consumer spending levels higher. Additionally, after years of acting as a drag, government spending should serve as a positive force. Global manufacturing has been weak, but we think this area is starting to turn.
While there are a number of risks, most should remain relatively contained. Terrorism and geopolitical instability are again driving a number of financial conversations. But while the human costs of the tragic events we have seen in France, Mali and elsewhere are staggering, geopolitical issues are unlikely to significantly affect financial markets unless they undermine broader economic growth. Many are also concerned about a shift in Fed policy, but we believe the Fed will move cautiously. And while a stronger dollar has some downside, we don’t expect the sort of sharp surge we witnessed in late 2014 into 2015.
Ultimately, we think evidence of better global economic growth will cause investors to move out of safe-haven assets such as Treasuries and cash and into equities. The path ahead will likely be bumpy, but we do expect equity prices to grind higher over the long term.
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1 Source: MorningstarDirect, as of 11/20/15
2 Source: Cornerstone Macro
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.
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