It was just the 2nd down-week of the year, but below the surface many individual names have been consolidating since mid-February. The S&P500 gave back -2.1%, but the more cyclical and strongest YTD performing areas are pulling back more sharply with transportation stocks down -3.3% and small-caps off -4.3% (Russell 2000). This weakness should embolden the somewhat consensus call that that the rally since the Christmas eve low was too strong for such a short-period of time and without any retesting.
With that as purely technical introduction, the softer/weaker performance in recent weeks is not without fundamental justification. Economic data in recent weeks is softer and more disappointing. Underscoring that theme the latest employment situation report for February revealed job gains of just +20k vs. what was an expected print of around +170k. Clearly such a miss should get the attention of investors, but after 2 consecutive months where job creation was more than 2x stronger than expected it is a little easier to classify the reading as “noise” rather than signal. But other items in the report were also attention grabbing: average hourly earnings ticked up to +3.4% A/R and that may begin to impact corporate profit margins and stir inflation (which would encourage the Fed to resume talking more hawkish). Employment will continue to bear close attention. Reinforcing the theme of caution, retail sales, industrial production, manufacturing and auto sales have all been weaker, and the widely followed Atlanta Fed GDP tracker is pointing to 1Q economic growth of just +0.5%. Too, business confidence is sagging; that only seems natural following persistent drama from Washington and a host of Democratic Presidential hopefuls that all seem vying to be the most progressive candidate for “redistributive tax regimes” in pursuit of correcting widening wealth disparity. To business owners or highly compensated leadership however, the idea of a 70% marginal tax rate, or proposals to tax accumulated wealth (already taxed) above certain levels each year can quickly sour your mood.
While further near-term weakness seems probable, we also believe that the current bull market (which just turned 10 on Saturday 3/9) will become the longest economic expansion of all-time (needs to last just one more quarter to claim that title). Softening economic data is prevalent both abroad and in the US at the moment, and 1Q looks to continue the recent decade’s theme of being an air pocket relative to the rest of year. Despite coincident economic indicator weakness, leading indicators still point that a soft downshift (rather than throwing the “car in reverse”) from the robust pace of 2018 is possible. Additionally, international policymakers are noting their respective weakness and appear to be pursuing stimulative measures. When combined with recent signs that US consumer confidence and housing may be rebounding, it is important to keep near-term weakness in perspective and avoid getting too pessimistic. Additionally, the strong out-of-the-gate performance for equity markets supports above-average rest-of-year performance when looking at history, as does where we are in the Presidential election cycle (Presidents usually try and juice the economy ahead of their re-election campaign). In that light, we remain inclined to view near-term market consolidation carefully, but opportunistically.