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Taking A Trade Break: Weak Overseas Data Center Stage Despite Solid Retail Sales

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Taking A Trade Break: Weak Overseas Data Center Stage Despite Solid Retail Sales

This time it’s not trade. 

Instead, weak overseas data helped set the negative tone early Friday, with U.S. markets again coming under pressure in pre-market trading after numbers from China and Europe overnight looked less than ideal. A decent U.S. retail sales data number didn’t initially appear to be enough to offset the sluggishness abroad.

China’s retail sales data growth came in below expectations and was the weakest in five years, while industrial output there grew the slowest in three years, possibly a sign of the trade war coming home to roost. Private sector business activity in Europe also fell, news that came just one day after the European Central Bank (ECB) sliced its growth and inflation forecasts.

The sluggish numbers appeared to affect overseas market performance early Friday as Chinese stocks fell more than 1.5% and Japan’s fell 2%. Closer to home, in Europe, all the major indices were off more than 0.5%. 

U.S. markets weren’t immune to the pressure from abroad, with the major indices losing ground before the opening bell despite November U.S. retail sales growth of 0.2% that matched Wall Street analysts’ expectations. 

November Retail Sales Another Sign of Healthy U.S. Consumer

Slicing the U.S. data a bit further, retail sales look even better, up 0.5% if you strip out declining gasoline prices. Also, the government raised its October retail sales estimate to 1.1%, from 0.9%. Auto sales rose slightly in November. In a nutshell, this is what we’ve been seeing for a while: U.S. numbers continuing to show consumer demand while foreign economies lag. U.S. consumers still seem pretty healthy, but the December retail sales data might tell a more important story, because it’s arguable that fears of a slowdown didn’t really start to hit until mid-November.

As Chinese and European data disappointed and markets slid, investors seem to be gravitating toward more of the so-called “risk-off” kind of assets early Friday. U.S. 10-year Treasury yields fell back below 2.9% and the dollar index climbed above 97.5, not far from its 97.69 high for the year. So it looks like today might be another struggle, at least from early signs. Investors are still likely to be watching for any additional China trade news after signs earlier this week of a slight thaw as China made some concessions. 

Still, it looks now like many investors are seeking shelter from the storm as the weekend approaches. Technical support for the S&P 500 Index (SPX) near the November closing lows of around 2630 might get breached pretty quickly, the way things look, and support below that might be found near the psychological 2600 level.

The Chinese and European data came after a mixed set of tidings from the earnings front late Thursday. Shares of Adobe (NYSE: ADBE) fell in pre-market trading after the tech company beat Wall Street’s revenue expectations but missed by a penny on earnings per share. One positive takeaway besides the revenue beat is that ADBE’s revenue outlook for fiscal Q1 and for the full year surpassed analysts’ estimates. Revenue growth looked strong worldwide in fiscal Q4.

At the same time, investors took shares of Costco (NYSE: COST) lower in pre-market trading after an earnings report that came up a bit shy of expectations. The big-box retailer continues to face lots of online competition, and shares of the company have flattened slightly after a strong start to 2018.

COST is another company providing insight on the U.S. consumer. Retail sales today, which continued to look robust, contrast with the weak housing market. It looks like for the most part consumers are pretty comfortable spending money on shorter-term items, but not so much “long-term” money on big purchases like homes.

Financials Still on the Fritz

Earlier this week, it looked like financials might help lift the market out of its funk. That was before the sector took another downward ride on Thursday.

Though financials did inch back from intraday lows and finished down about 0.6% for the session regional banks once again took it on the chin. That could account for part of the pressure on the Russell 2000 Index (RUT) of small-cap stocks, which fell more than 1.5%, the worst of any major index Thursday. The RUT finished the day close to bear market territory, down nearly 18% from the late-August closing high. A 20% drop would place it into a bear market. 

Getting back to financials, it’s a bit concerning how badly the banks are getting pounded this week, and it’s also kind of a head-scratcher. Though yields on Treasury notes are down sharply from their fall highs, Thursday’s finish at about 2.91% for the 10-year yield is almost 10 basis points above last week’s lows. Bonds saw some selling pressure Thursday after the European Central Bank (ECB) announced that its bond buying program would end this month. That means the ECB’s debt purchases will fall from 15 billion euros per month to zero. 

Normally, rising yields and the end of a quantitative easing program would tend to give banks a lift.

Still, U.S. financials—including multinational firms with exposure to Europe—are having a tough time. One school of thought suggests that the weakness might be a canary in a coal mine hinting that some investors sense 2019 earnings could turn out worse than expected. Though most analysts see overall earnings growth slowing quite a bit next year from sizzling gains of 20% or more in mid-to-late 2018, there’s still widespread hope for at least mid-single digit S&P 500 earnings growth. Only time will tell if the financials are hinting at some kind of shock to the downside.

Whatever the case with earnings, financials have arguably been an anchor on Wall Street’s boat for months. It was no different Thursday, though both the Dow Jones Industrial Average ($DJI) and the Nasdaq (COMP) managed to close with light gains. 

Tug-of-War on Risk

The “risk-off” sentiment appeared to be back Thursday to some extent, with utilities, staples, and real estate among the sector leaders. However, there were signs of some optimism, too, especially when you consider the fixed income market weakness and gains in info tech and energy. Crude had a great day Thursday. If crude can keep rallying, and that’s a big “if” considering the supply situation, perhaps that might help investors feel more bullish about the economy both in the U.S. and overseas.

Despite the market’s inability to maintain early rallies over the last few days, there are some signs that things could be headed in the right direction, including positive sentiment around trade with China after a couple of developments earlier this week, and an analyst upgrade to General Electric (see more below). Also, volatility as measured by the VIX slipped to just above 20, and the S&P 500 (SPX) hasn’t shown signs of any major test of recent lows down below 2600. However, there’s likely going to be a lot of volatility until we get some resolution on tariffs. 

There’s also the possibility of a partial U.S. government shutdown at the end of next week. Historically, shutdowns have had mixed impacts on the market, with stocks rising during about half of them. Even if there is a shutdown, it’s unlikely to have a big effect. Right now, the market appears to care most about the outcome of the US-China trade negotiations, and all other news could be secondary. Though the implications of a potential government shutdown may weigh on the minds of some investors, arguably the most pressing issue is whether we can get any clarity on the direction of the tariff talks.

The other things to consider keeping in mind as next week approaches are some critical housing data along with “quadruple witching” a week from today that might see traders cleaning up some of their positions ahead of time. Remember, quadruple witching is the simultaneous expiry of stock index futures, stock index options, stock options & single stock futures.

Figure 1:  Regional Banks Hit Hard: Over the last three months, regional banks (candlestick) are down nearly 20%, while the S&P 500 Financial sector (purple line), which had been doing a bit better than regionals last month, has recently joined them in the doldrums. Data Source: S&P Dow Jones Indices. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.

Pressing the Upgrade Button: Though JP Morgan’s (NYSE: JPM) upgrade of battered General Electric (NYSE: GE) shares to neutral drew a slew of headlines Thursday and helped send the stock to early double-digit gains, GE wasn’t the only big-name stock to receive positive analyst views in recent days. Others included AT&T (NYSE: T) and Apple (NYSE: AAPL), both of which are down sharply from their yearly highs. Tesla (NYSE: TSLA), another stock that’s had its ups and downs this year, also saw some analysts raising price targets recently. The GE and AAPL upgrades might simply reflect some analysts looking at the price action and determining there’s not much further to fall after dramatic losses. 

On the other hand, those making upgrades and raising price targets also saw some fundamental things to like, citing improved cash flows at GE and TSLA. While that’s not necessarily the most thrilling kind of news, it might provide a counter to the negative talk that’s cast a cloud over the market lately. We’ll see if any more analyst upgrades come out of the woodwork in coming days with stocks still near their yearly lows. Additional upgrades of major companies might help add to the sense that the market could be carving some sort of a bottom.

Fed Surprise? Unlikely: Back in June 2016, the Fed seemed primed to raise rates. The economy was recovering from weakness earlier that year, and Fed funds futures indicated a likely hike. Then the Fed threw a surprise curveball, electing not to raise rates that month due to a poor May jobs report. As we approach next week’s Fed meeting, some economists wonder if the Fed might pull punches again, even though the futures market continues to point to a very solid 80% chance for a hike. It’s probably best to expect exactly that, though of course there’s no guarantee. As former Fed Vice Chair Alan Blinder told CNBC yesterday, the current Fed funds target range of 2% to 2.25% means monetary policy still has its foot on the accelerator despite full employment and economic growth of around 3%. Historically, the Fed hasn’t eased policy in this kind of economy. While it may not be time for the Fed to slam the brakes yet, shifting into neutral seems a likely option. Some say 2.5% has historically marked the bottom of a “neutral” range that neither sparks the economy nor wears it down, and it wouldn’t be surprising to see rates reach that level sometime next year barring any shocks to the economy.

Brexit Act XX: The Shakespearean drama that never seems to end in Europe was back in the spotlight this week as British Prime Minister Theresa May postponed a parliamentary vote on Brexit and survived a challenge to her leadership. She then traveled to Brussels to meet with other European leaders, but May said she doesn’t expect an immediate breakthrough. She also still faces a Parliament that seems unwilling to approve her compromise deal. That means the market could find itself back where it started before this rocky week, facing the prospect of a “no-deal” Brexit if something can’t be done before the late-March deadline. As this approaches, it could make anyone holding European stocks nervous and weigh on the euro. The euro now trades at $1.13, near the low end of its six-month range. The dollar index remains near its 2018 highs above 97. Lately, a vigorous dollar has been one factor arguably weighing on U.S. stocks. Lack of a Brexit dénouement could keep dollar strength at center stage, possibly to the chagrin of the investor audience.

Posted-In: Earnings News Politics Federal Reserve Markets General

 

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