Key Points
▪ U.S. economic growth is slow, but may accelerate in the coming quarters.
▪ The key variable for equity markets remains corporate earnings. We expect better results in the second half of 2016.
▪ Investor sentiment should improve as well, reinforcing our pro-growth investment view.
The uneven market uptrend in place since mid-February resumed last week, with the S&P 500 Index climbing 1.7%.1 The primary catalyst appeared to be better-than-expected corporate earnings results in the still-early reporting season, particularly from the banking sector. As a result, bank stocks performed particularly well, rising 7% last week, marking the best weekly gain in over four years.1 Investors also focused on better economic data coming from China and ongoing evidence that the U.S. economy is growing slowly.
Weekly Top Themes
1. U.S. economic growth should rebound after a weak first quarter. We think first quarter real gross domestic product will likely have advanced by less than 1%. A deteriorating trade balance, declining inventories and falling automobile sales all point to an economy that is growing only modestly. Looking ahead, indicators such as the latest beige book reading from the Federal Reserve (which showed a pickup in wages, consumer spending and hiring) suggest growth should accelerate in the coming quarters.2
2. Manufacturing data remain mixed, but should also improve. Following positive results from the previous weeks, March industrial production numbers ended worse than anticipated.2 It appears that the effects of the stronger dollar and anemic global trade remain headwinds, but we believe these drags are beginning to fade.
3. Likewise, consumer spending should accelerate. Consistent with other economic readings, March retail sales figures were disappointing.3 But the strong jobs market and rising wages suggest consumer spending levels could be also poised for an uptrend.
4. Improving economic growth should help corporate earnings. S&P 500 earnings have been flat to negative for the past five quarters.4 This largely explains why equity prices have remained static over that time period. We think broader economic acceleration should help earnings to recover in the second half of 2016. This should be a positive for stock prices.
5. Rising labor costs are a potential risk. Slow wage growth has been a plus for corporate earnings over the past year. But wages are finally rising, which presents some negatives. Growth in average hourly earnings is approaching its fastest pace in five years,5 and declining unemployment levels should continue exerting upward pressure on wages. This is a positive for consumer spending, but complicates the corporate earnings outlook.
Long-Term Conditions Favor Equities
We have witnessed two double-digit equity market declines and subsequent rebounds since last summer. In both cases, the initial sell-off was mainly due to concerns over global economic growth (first in China and secondly in the United States). Over the past couple of months, conditions appear to have stabilized, and risk assets have held up moderately well. Signs of economic and policy clarity from China have helped, as have renewed commitments toward pro-growth policies from global central banks.
At this juncture, we believe the economic backdrop and relative valuations favor equities over bonds and fixed income credit sectors over government-related areas. The keys toward whether our view is correct will probably be ongoing improvements in the global economy and an increase in investors’ risk appetite. We are fairly confident that the former condition will materialize, but the latter is less certain. Sentiment is better today than it was a couple of months ago, but remains tilted toward the bearish view.
Nevertheless, we continue to have a modest pro-growth investment view. Over the near-term, additional market turbulence is likely, particularly since equity prices have risen so far, so quickly. The prospects for an additional Fed rate hike this summer could unnerve investors. We expect more economic and earnings clarity later in the year, which should allow for greater stability in the markets.
1 Source: Morningstar Direct, as of 4/15/16
2 Source: Federal Reserve
3 Source: Commerce Department
4 Source: Citi Research
5 Source: Goldman Sachs
The S&P 500 Index is a capitalization-weighted index of 500 stocks designed to measure the performance of the broad domestic economy. The Dow Jones Industrial Average is a price-weighted average of 30 significant stocks traded on the New York Stock Exchange and the Nasdaq. The Nasdaq Composite is a stock market index of the common stocks and similar securities listed on the NASDAQ stock market. 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. 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. MSCI EAFE Index is a free float-adjusted market capitalization weighted index designed to measure developed market equity performance, excluding the U.S. and Canada. The MSCI Emerging Markets Index is a free float-adjusted market capitalization index that is designed to measure equity market performance of emerging markets. Barclays U.S. Aggregate Bond Index covers the U.S. investment grade fixed rate bond market. The BofA Merrill Lynch 3-Month U.S. Treasury Bill Index is an unmanaged market index of U.S. Treasury securities maturing in 90 days that assumes reinvestment of all income.
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. Noninvestment-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.
CFA® and Chartered Financial Analyst® are registered trademarks owned by CFA Institute.
Nuveen Asset Management, LLC is a registered investment adviser and an affiliate of Nuveen Investments, Inc.
© 2016 Nuveen Investments, Inc. All rights reserved.
