US equities capped a 4th consecutive week of gains, bringing US equities back roughly +13% thru this past Friday from its Christmas-eve lows. As one might anticipate, the markets are also off to an extraordinarily strong New Year start with the S&P500 up +6.6%; encouraging, more economically sensitive areas of the market like small-size companies are faring even stronger over that period with gains of roughly +10% (Russell 2000). Most of that strength is being attributed to a more collaborative narrative surrounding trade negotiations between the US and China, as well as a more data-dependent and cautious Federal Reserve as it relates to normalization of monetary policy. The only missing element of full improvement from a domestic policy perspective at this point is that the US government remains partially shut down and there is little sign of either side appearing willing or desirous of reaching compromise. In any event, the stock market’s strong rebound serves valid reminder of how quick and suddenly direction can reverse course in financial markets, even as worries are not fully resolved.
From an economic perspective, the big focus last week was on the release of corporate earnings from the 4Q which began in earnest last week and will accelerate this week. So far, 11% of companies in the S&P500 are reported with 76% topping consensus estimates on the metrics of earnings while 54% are exceeding on revenue (measure of demand). Clearly not bad, especially as one considers how decidedly pessimistic was the tone conveyed by markets during the 4Q. However, it is often said that companies with the strongest results are often the first to report; those knowing they will share softer results might likely come as the season matures and holds potential for renewing concerns among investors. Markets are watching closely, not just the raw numbers this season, but also for guidance that implies a deteriorating outlook for future periods and/or diminishing confidence/sentiment. Indeed, fresh data related to consumer and business confidence reflects a brisk deterioration occurring during December; it would also appear the ongoing Government shutdown, symbolic to us of ongoing political dysfunction, is weighing heavily on sentiment even if it directly affects only a small percentage of the labor force and GDP. While sentiment is harder to quantify, uncertainty and caution undoubtedly erodes economic activity and investment, and holds potential to turn problems that were only feared into problems of reality. In that regard, it is notable that there were a number of headlines originating from the world economic forum now underway in Davos which are more downbeat and sober in terms of their outlook. And, China’s economy is reportedly at its slowest pace in as much as three decades (contrarian note: this would add incentive for China to be more willing and collaborative on trade).
Summarily, the tone so far in 2019 is much improved from where things concluded in 2018. But with the strong rebound bringing indexes back to key technical levels that once served as support (now serve as resistance) so quickly, and the fact that “v-shaped” recoveries are historically rare, the question in the short-term is where to from here? From our perspective, there remain many things that need to (and likely will) go right. Specifically, a workable trade deal must materialize; the Fed should pause and observe for better data; and parties of Government need to reconcile their differences (not just in the US, but also abroad). Corporate earnings, while softer than enjoyed throughout much of 2018, should also remain firmly in growth-territory. And we suspect that international leaders will pursue fiscal policy aimed at stimulating their economies, similar to what tax reform provoked for unemployment and earnings in the US during 2018. In the short run however, we would not find it surprising to see the markets encounter friction or a renewed more pessimistic tone reassert itself with some degree of retesting to occur. Said differently, do not be alarmed if we need to endure a little more uneasy pain and volatility.