A relief rally off the recent lows was triggered as we’ve entered historically strong period for stocks
Liz Ann Sonders, Senior Vice President and Chief Investment Strategist, Charles Schwab & Co., Inc. noted that “it’s too soon to declare that the U.S. secular bull market is over, but investors would do well to stay disciplined as the year winds down.” The stock market has likely entered a more volatile phase due to the elevated uncertainty brought by tightening financial conditions, the ongoing trade battle between the United States and China, likely peak U.S. economic and earnings growth, as well as the recent midterm election results.
A potential positive offset to the uncertainty is what has historically been strong seasonal period for the markets. “Novembers and Decembers of U.S. midterm election years have historically been quite strong. Additionally, the recent uptick in volatility has allowed investor sentiment — a contrarian indicator — to drop out of the excessive optimism zone, which could continue to provide some near-term support for stocks,” said Sonders. “That said, we remain cautious about equities and continue to recommend investors take no risk beyond their longer-term strategic U.S. equity allocations.”
“The current expansion of U.S. economic growth is now the second-longest in history; but also the shallowest. I think we will get to the record-breaking point in about nine months, but it’s still appropriate to highlight the signs to look for to get a sense of when the next recession will descend,” said Sonders. “There is no sign of deterioration in the level of the Leading Economic Indicators (LEI); however, there are some notable weaker trends in several of the subcomponents of the leading indicators, including the average workweek, Institute for Supply Management (ISM) new orders, and building permits.”
Earnings season has been strong, but earnings growth rates will drop meaningfully into next year as the year-over-year comparisons become much more difficult given corporate tax cuts in 2018. Although this year’s earning growth will exceed 20%, expectations for growth in the first three quarters of 2019 are now well below 10%, according to Thomson Reuters.[1]
“The tariffs are not yet having a discernible impact on the U.S. economy, with job growth, industrial production and business/consumer confidence remaining strong,” said Sonders. “However, if the remaining pending and potential tariffs kick in, the impact on U.S. gross domestic product (GDP) will become much more significant; potentially shaving more than 1% off a decelerating growth rate.”
Further, the U.S. labor market continues to tighten, with October’s non-farm payroll employment rising by 250k, well above the expected 188k. The U.S. economy has had positive payroll growth for a record 97 months; and the unemployment rate remained steady at 3.7%, matching the lowest reading since the end of 1969. But wage growth has kicked into higher gear, with average hourly earnings (AHE) jumping to 3.1% year-over-year.
“As is typical later in economic cycles, the tightness in the labor market brings with a commensurate tightness in monetary/financial conditions, which tend to lead to a higher equity market volatility,” added Sonders.
“On the other hand, the rise in interest rates and the Federal Reserve’s continued hawkish tilt has raised concerns about the Fed moving too quickly or too far — especially given still-subdued inflation,” said Sonders. “The core consumer price index (CPI) is up a modest 2.2% over the year ago period, but that is above the Fed’s 2% target. Although wage growth has been slow in coming this cycle, it has picked up pace more recently.”
Sonders expects that the Fed will hike interest rates once more this year, and three times next year, in keeping with an upgraded economic outlook. She continues to believe that the Fed has little desire to slow down economic growth and will continue to be cautious about moving too quickly. However, she noted that if inflation takes hold, it will likely push to Fed to be more aggressive with rate hikes in 2019 — arguing for a more cautious stance by investors.
Although we are entering the end-of-year shopping season — traditionally a positive time for stocks — Sonders is suggesting investors who want to give their portfolios a more cautious disposition could consider shifting some assets into the more defensive equity sectors such as health care, utilities and essential consumer goods.
“There will likely be more volatility, but for now U.S. economic growth remains solid, and the midterm elections are over. Gains looking forward are likely limited by myriad of late-cycle pressures. We suggest investors remain disciplined, consider diversification and rebalancing, and consider establishing a more tactically defensive positioning,” concluded Sonders.
Important Disclosure
Investment involves risk. Past performance is no indication of future results, and values fluctuate. International investments are subject to additional risks such as currency fluctuations, political instability and the potential for illiquid markets. Investing in emerging markets can accentuate these risks.
The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision.
All expressions of opinion are subject to change without notice in reaction to shifting market, economic or political conditions. Data contained herein from third party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed.
Diversification and rebalancing a portfolio cannot assure a profit or protect against a loss in any given market environment. Rebalancing may cause investors to incur transaction costs and, when rebalancing a non-retirement account, taxable events may be created that may affect your tax liability.
Past performance is no guarantee of future results. Forecasts contained herein are for illustrative purposes only, may be based upon proprietary research and are developed through analysis of historical public data.
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About Charles Schwab Australia
Charles Schwab Australia Pty Ltd., a subsidiary of The Charles Schwab Corporation, provides investment products and services to help individuals access and navigate the U.S. market. Investors can take advantage of Schwab’s online tools and resources as well as work closely with its Australian-based licensed investing professionals. Schwab champions investors and believes everyone should have opportunity to achieve great financial outcomes. Whether you are new to U.S. investing or an active trader, Schwab is here to serve you through our office in Sydney, online, or 24/5 by phone at 1300-781-132.
[1] Source: Thomson Reuters S&P 500 Earnings Dashboard (http://lipperalpha.financial.
SOURCE Charles Schwab
